David Chaika - Masco Corp. Keith J. Allman - Masco Corp. John G. Sznewajs - Masco Corp..

Susan Marie Maklari - UBS Securities LLC Dennis Patrick McGill - Zelman & Associates Keith Hughes - SunTrust Robinson Humphrey, Inc. Kenneth R. Zener - KeyBanc Capital Markets, Inc. Megan McGrath - MKM Partners LLC Stephen S.

Kim - Evercore ISI Robert Wetenhall - RBC Capital Markets LLC Stephen East - Wells Fargo Securities LLC Michael Wood - Macquarie Capital (USA), Inc. Nishu Sood - Deutsche Bank Securities, Inc. John Lovallo - Bank of America Merrill Lynch.

Good morning, ladies and gentlemen. Welcome to Masco Corporation Third Quarter 2016 Results Conference Call. My name is Kim and I'll be your operator for today's call. As a reminder, today's conference call is being recorded for replay purposes. I will now turn the call over to Dave Chaika, Vice President, Treasurer and Investor Relations.

You may begin your conference, sir..

Thank you, Kim, and good morning to everyone. Welcome to Masco Corporation's 2016 third quarter earnings conference call. Joining me today are Keith Allman, President and CEO of Masco; and John Sznewajs, Masco's Vice President and Chief Financial Officer.

Our third quarter earnings release and the presentation slides that we will refer to during the call are available on the Investor Relations portion of our website. Following our prepared remarks, the call will be open for analyst questions. As a reminder, we would appreciate if you would limit yourself to one question with one follow-up.

If we're unable to take your question during the call, please feel free to call me directly at 313-792-5500. I'd like to remind you that statements in today's presentation will include our views about Masco's future performance, which constitute forward-looking statements.

These are subject to risks and uncertainties that could cause our actual results to differ materially from the forward-looking statements. We've described these risks and uncertainties in our risk factors and other disclosures in our Form 10-K and our Form 10-Q that we filed with the Securities and Exchange Commission.

Today's presentation also includes non-GAAP financial measures.

Any references to operating profit, earnings per share or cash flow on today's call will be as adjusted unless otherwise noted, with a reconciliation of these adjusted measurements to GAAP in our quarterly press release and presentation slides, which can be found in the Investor Relations section of our website, www.masco.com.

With that, I'll now turn the call over to our President and Chief Executive Officer, Keith Allman..

Thank you, Dave, and good morning, everyone. Turning to slide four, I'm pleased with our performance in the third quarter of 2016. We continue to successfully execute our strategic initiatives to grow both our top and bottom lines as evidenced by the fact that this quarter is our 20th consecutive quarter of both top and bottom line growth.

Our end markets, both in North America and internationally, remain strong, and we continue to leverage this underlying market strength by introducing new products, improving our sales mix, penetrating new markets and gaining share with our industry leading brands. For the third quarter, our top line increased by 2%, 3% in local currency.

Our adjusted operating margin increased 70 basis points to 14.7%, reflecting our portfolio's strong operating leverage and a favorable price commodity environment. Our adjusted earnings per share grew 21% to $0.41 per share.

Notably, this adjusted operating margin and adjusted earnings per share includes the negative impact of a $21 million increase to our warranty reserve in our Windows and Other Specialty Products segment. John will provide you with more details about this charge in his commentary.

Turning to our segments, I would like to provide you with some additional insight into the drivers behind each of our segments' performance. Our Plumbing businesses continued their outstanding performance by growing revenue 6% in local currency, led again by the continued strength of our Delta, Hansgrohe and Watkins businesses.

In early October, Delta was once again honored by the Environmental Protection Agency, earning the EPA WaterSense Sustained Excellence Award for 2016.

This is the second consecutive year Delta has won this award, an award which recognizes Delta's efforts to promote water efficiency through its innovative, water-efficient products, such as Touch2O faucets and H2Okinetic shower heads.

Delta was also honored as the Best Overall Vendor in E-Commerce and as the Best Overall Plumbing Vendor in the showroom and builder segment by Ferguson Enterprises, our nation's largest plumbing wholesaler.

Congratulations to the entire Delta team for its ability to bring innovative, environmentally friendly products to the market and for its ability to successfully focus, understand and deliver on the needs of its customers. Moving on to our Decorative Architectural segment, we once again delivered a solid quarter.

Our Pro Paint initiative with The Home Depot continued to drive double-digit sales growth in the quarter. And BEHR MARQUEE, our highest price point DIY product, continued to post exceptional year-over-year comps. During the quarter, to further accelerate our Pro business, we began staffing an additional 100 Pro Hub stores.

This will bring our total store count to over 200 by year-end. We're excited by the results of the initial Hub store investment and we believe that these additional Hub stores will provide us, along with our partner, The Home Depot, with an exceptional foundation to continue penetrating the pro paint market.

In our Cabinets business, we continue to execute against our plan to optimize our sales mix by exiting certain low-margin direct-to-builder business.

Our retail cabinet business was particularly strong this quarter, as we partnered with our customers to offer highly effective, exclusive promotions for KraftMaid, the most recognized brand in the industry. Our brand recognition, coupled with these promotions, drove foot traffic into their stores and demand for our products.

Additionally, based on the success of our KraftMaid Momentum product at Lowe's, we are expanding the product offering to an additional 250 stores, taking the total store count to 500 stores across the United States. KraftMaid Momentum is a product line that extends the KraftMaid brand into the value semi-custom price point.

This further roll-out is a testament to our focus on the customer, our product development capability, and our efforts to gain greater share of wallet at retail. Our Cabinetry team also completed significant product launches for both the KraftMaid and Quality brands during the quarter.

These launches included trend forward finishes to capitalize on the growing demand for gray paints, new door styles, decorative accessories and functional SKUs. Moving to Windows and Other Specialty Products, our sales grew by 2%, excluding the effect of foreign currency.

As we discussed last quarter, we continue to work through some operational issues in our Milgard window business unit related to labor turnover and other inefficiencies. The organization and I are keenly focused on fixing these issues.

We've reorganized Milgard's management team, brought in top operational resources from across the company and, together with the Milgard team, are actively working through these issues. It's going to take some time, but I'm confident that we have the appropriate focus and urgency.

While we currently have some challenges in our Windows segment, overall I'm pleased with our third quarter performance and the continued execution of our long-term strategies. Our Plumbing businesses continue to produce outstanding top and bottom line results.

Our Pro Paint initiative continues to post double-digit growth as we further penetrate this market segment and gain share. And our Cabinet business has improved its year-to-date profitability by approximately $50 million through cost reductions, improved mix and strong growth in the retail and dealer channels.

Our results are indicative of the solid execution of our strategies. Additionally, we took further action in the quarter to create shareholder value through our capital allocation strategy. We repurchased 2.3 million shares, bringing our total shares repurchased to 31 million against our 50 million share repurchase authorization.

And we increased our annual dividend by $0.02 per share to $0.40 annually. This is the third year in a row that we have increased our dividend. With that, I'd like to turn the call over to John, who will go over our operational and financial performance in detail.

John?.

Thank you, Keith, and good morning, everyone. Please turn to slide six. As Dave mentioned, most of my comments will focus on adjusted performance, excluding the impact of rationalization and other one-time charges. Our focused execution continued as we delivered top and bottom line growth in North America and internationally.

As Keith mentioned, the third quarter of 2016 was our 20th consecutive quarter of year-over-year sales and operating profit growth. Sales increased 2% for the quarter and 3% in local currencies. Foreign currency translation negatively impacted our sales in the quarter by approximately $17 million, principally due to a weaker pound compared to the U.S.

dollar. North American sales were up 2% in the quarter. We continue to experience strong demand for our repair and remodeling products in all channels of distribution and across the price continuum, as consumers are trading up to our better and best product offerings.

As a reminder, repair and remodel activity accounts for approximately 83% of our total sales. International sales increased 6% in local currency in the quarter, driven by the continued strength in our international plumbing and window businesses. Gross margins expanded approximately 100 basis points compared to the third quarter of last year to 32.9%.

This includes the negative effect of Milgard's warranty adjustment. Our SG&A as a percent of sales increased this quarter by 40 basis points due to the strategic investment in several of our businesses in order to drive top and bottom line growth. Our teams continue to be focused on cost control and productivity improvement.

We delivered strong bottom-line performance once again, as operating income increased 7% to $275 million, with operating margins expanding 70 basis points to 14.7%. Our EPS in the quarter was $0.41, an improvement of $0.07 or 21% compared to the third quarter of last year.

EPS was unfavorably impacted by approximately $0.04 due to the increase in Milgard's warranty reserves. Turning to slide seven, our Plumbing segment delivered another strong quarter of growth, driven by terrific performance at Delta, Hansgrohe and Watkins.

Segment sales increased 6%, excluding the impact of currency, driven by growth in our faucets, showers and spas. Foreign currency translation negatively impacted this segment's sales by approximately $9 million in the quarter.

Our North American sales grew 6% in the third quarter, as we experienced strong consumer-driven demand for our innovative brands with both our wholesale and large retail customers. Our spa business is outperforming the competition, as Watkins continues to leverage its strong dealer network, innovative new products and industry leading brands.

Our international plumbing sales increased 7% in local currency. We experienced sales growth around the globe, with particular strength in Asia and Northern Europe. Additionally, our sales mix continues to improve, as our premium price point Axor brand grew double digits this quarter.

Operating profit for the segment increased 30% in the quarter, driven by incremental volume and a favorable price commodity relationship. This segment also benefited from a positive year-over-year commodity hedge impact of approximately $10 million.

This benefit was partially offset by approximately $5 million of incremental advertising and display expense in support of new product introductions, as we previously discussed in our second quarter earnings call.

Turning to slide eight, the Decorative Architectural segment grew 2%, as we continued to experience strong growth across our BEHR PRO business and solid performance of our BEHR MARQUEE interior product.

This growth was partially offset by the timing and amount of incremental promotional expense that we had previously discussed on our second quarter earnings call. Liberty Hardware also contributed to the top and bottom line growth. Operating profit increased 9% in the third quarter, principally due to operating leverage on a higher volume.

As we mentioned on the second quarter call, we intend to invest $30 million in promotion and advertising in the second half of 2016 to grow this business.

In the third quarter, we incurred approximately $10 million of this promotion and advertising expense, and we expect to incur an additional $15 million to $20 million of investment in the fourth quarter, which includes $5 million of reset cost for Liberty's shower door program win at The Home Depot.

Turning to slide nine, we continue to be pleased with our Cabinet segment performance. Segment sales declined 6% due to the deliberate exits of certain lower-margin business within the builder direct channel in the United States and at select low-margin accounts in our UK Cabinet business.

These actions in aggregate reduced segment sales by approximately $25 million. This decline was partially offset by KraftMaid's strong performance in the retail channel, resulting in double-digit growth and year-over-year share gains.

In the dealer channel, we drove single-digit growth through increased volume and favorable mix, as both our KraftMaid and Merillat offerings continue to resonate with our dealer base and consumers.

Segment profitability in the third quarter improved 5% over 2015, driven by our continued execution of cost savings initiatives as well as improved mix, as we reduced our exposure to lower-margin builder direct business, continue to grow our higher price point semi-custom KraftMaid offerings.

As we mentioned on the second quarter call, this growth was partially offset by approximately $5 million of incremental spend, which included expenses associated with our new product launches in the retail and dealer channels under the KraftMaid and Quality brands.

We expect to incur an additional $5 million of product launch cost in the fourth quarter. I'm pleased to report these new products are driving strong foot traffic at our dealer customers and favorable end consumer reaction.

For the fourth quarter, we continue to believe the revenue impact of our decision to exit select builder direct business in our kitchen countertop business will negatively impact sales by between $15 million and $20 million. These impacts will continue through the first quarter of 2017.

Turning to slide 10, our Windows segment sales increased 2% in local currency, driven by growth in Milgard, our leading Western U.S. window business. Milgard's continued growth was driven by a positive mix shift toward our premium window and door product lines and favorable pricing. Excluding the negative impact of a stronger U.S.

dollar, our European Windows sales increased 2%, driven by volume and share gains. Foreign currency translation negatively impacted this segment's sales by approximately $8 million in the quarter.

The segment's operating profit decline was primarily due to the additional warranty reserve of approximately $21 million at our Milgard business, $6 million of incremental labor costs and inefficiencies and ERP expenses of approximately $3 million. Let's go into more detail on the warranty adjustment and ERP expenses.

You may recall Milgard recorded a $10 million warranty adjustment in the second quarter. During Q2, we initiated an analysis based on enhanced historical warranty claims data that became available in the quarter and, in accordance with GAAP, booked the $10 million adjustment.

In the third quarter, we completed our analysis and we recorded an additional $21 million adjustment which was reviewed by multiple third parties. Moving to ERP, as we had previously disclosed, we anticipated approximately $3 million of expenses per quarter related to ERP into 2017.

We recently made the decision to deliberately slow down the roll-out of ERP, so that we could implement the system during seasonally slower periods. This decision will take the implementation through 2019. We are doing this to protect the customer and minimize disruption to the business.

And turning to slide 11, we ended the quarter with about $1.2 billion of balance sheet liquidity and delivered another strong quarter of working capital performance. Working capital as a percent of sales improved 20 basis points versus the prior year to 12.9%.

As we approach the end of 2016, we are on track to generate close to $500 million of free cash flow again this year. We also continued our initiatives to create shareholder value. During the third quarter, we repurchased 2.3 million shares valued at approximately $78 million.

Finally, we increased our annual dividend by $0.02 per share to $0.40 per common share. And with that, I'll now turn the call back over to Keith..

Thank you, John. I'm pleased with our team's strong execution as we continue to drive for even better results. The fundamental demand drivers of our business continue to be positive.

And going forward, we remain committed to leveraging these strong, long-term demand drivers by investing behind our brands for growth; by developing innovative, award-winning products to ensure we maintain our must-have position with our customers; by focusing on operational excellence through our continued deployment of the Masco operating system; and finally, by balancing our capital allocation between investing for growth, acquisitions with the right strategic fit and returns; and returning cash to shareholders through share buybacks and dividends.

We remain confident that we will achieve our 2017 earnings per share target of $1.80 that we said at our Investor Day in 2015. Our operational execution, coupled with our strengthened balance sheet, strong liquidity position and substantial free cash flow, provides us with multiple levers to continue to drive shareholder value.

Before we go to Q&A, I'd like to ask that we stick to the one-person, one-question guideline with a follow-up on that question if needed. Last quarter, we had nine people ask 25 questions, and I know that if we follow the guideline, it will help all you do your job the best that you can. Thank you. And with that, I'll open the call up for questions.

Operator?.

And your first question comes from the line of Susan Maklari from UBS. Your line is open..

Good morning..

Morning, Susan..

First off, just digging a little bit deeper into the Windows segment.

I know you talked about some of the steps that you're taking there to kind of turn things around, but can you just talk to sort of incremental goals or how we should expect this progress to sort of come together as we look forward?.

As we've talked about, there are really three distinct issues that we are dealing with in Milgard. First, is the warranty accrual increase. We put that analysis – we completed the analysis. That's behind us. Second, as you know, we are implementing an ERP system. We completed the first plant successfully.

We used those learnings and experience, and our plan is now to methodically roll out our systems across all the other plants, but to do it in a way that avoids the peak periods, which is really Q2 and Q3. So we eliminated those quarters from our implementation plan and we're only going to be implementing ERP systems in the slow periods.

That protects our customer. It's the right thing to do. And thirdly, due to a combination of strong demand for our products, particularly around painted vinyl and fiberglass, coupled with a tight labor market in the Northwest that we have, we're dealing with some labor efficiencies. We've mobilized our best talent and operational teams.

We have the Senior Vice President of Operations from Delta Faucet working with the Milgard team. We have the Masco Operating System Group working with the team. And together, I'm pleased with the initial success that we have. So we're turning it around. So those are three distinct issues that we're dealing with.

In terms, Susan, of your specific question going forward, I think our guidance that we talked about in terms of long-term growth is going to be a little dampened due to some of the short-term issues that we're facing.

When you think about the long-term margins of this business, we haven't changed our point of view on that and we're seeing that right in that 10% to 13% range. So long term, nothing has changed. We're dealing with some short-term issues and we're making progress..

Okay. That's very helpful. Thank you. And then, just turning to paint for a minute, you noted that you are expanding into your Pro Hub stores there.

How should we think about that expansion coming together as we look to 2017 and perhaps the top line and the margin implications there?.

Well, we've talked about the incremental investment. John, maybe you can hit on that specifically..

Yeah, Susan, we put in the additional 100 Hub stores earlier this year and we saw very good response. And this is in an effort to attract pro paint contractors to The Home Depot stores. And so, we saw nice comp store growth for our Pro products where we had Hub store employees.

And so, what we're hoping for, as we go into 2017, is these 100 new Pro Hub store reps get into The Home Depot stores that will see additional comp store growth in attraction of the pro contractor in The Home Depot store. So we're excited about the prospect for these next 100 employees..

Okay, great. Thank you..

And your next question comes from the line of Dennis McGill with Zelman & Associates. Your line is open..

Good morning. Thank you. Just turning to Cabinets, can you maybe elaborate a little bit more on the sales trends you're seeing across channels? I think you said double digit in the dealer channel, but I just wanted to make sure that was across the business, across brands.

And then, I didn't catch what you said was the performance in the home center channel.

And then, the third piece on the builder exits, it seemed like there was more of an impact this quarter, maybe more of an impact carrying forward, so I just want to understand if that's more of an impact from the walks that you already had or if there was incremental business that you walked away from. So all together on the sales side..

Yeah, Dennis, I'll start off and maybe Keith can supplement. So just to be clear, so our retail home center business was up low double digits in the quarter, and our dealer sales were up single digits in the quarter. So, to your comment about the decline in revenue due to the exit of the business, that's right.

And you may recall that we started this in the third quarter of last year, but you may also recall that on our first quarter conference call, we announced that we had chosen to exit our kitchen countertop business as well as some other business on the Eastern Seaboard.

And so, as a result, that has elevated some of the exits that we've seen over the course of the last couple quarters. And so, I think the third quarter and the fourth quarter will be the biggest part and it'll start to decline as we get into the first quarter of next year. So feel pretty comfortable about how the team is positioning the revenue.

Keith, I don't know if you have anything to add..

Real good quarter, Dennis, in the retail channel. The KraftMaid brand, as you know, is the most recognized brand in the industry in R&R and that's really playing well. So, good traction there. On the dealer side, we talked about the single-digit growth that we're seeing.

We've got some really nice new product introductions that we're launching, both in KraftMaid and our Quality brands, and the foot traffic that we're seeing in that dealer channel, broadly speaking, is really solid. In fact, we're seeing that pick up a little bit as we look across the – really across the entire country.

So, good foot traffic, good product introductions that are helping to drive that, and we're focused on dealer growth..

And the impact on the expense side of the promotions at the home center side -- is that the $5 million that you mentioned, John, incrementally, or is there more to it?.

No, no, Dennis. It has to do with display centers and the like as we launch the new products. So, that's exactly what that is. And that's what we're going to incur, because as you might expect, when you're dealing with dealers, it takes some time before – some people aren't ready to launch the new products as soon as they come to market..

Was the promotion an impact on the expense line, then, I guess is ultimately the....

The promotion would be an expense, Dennis, in the third quarter, but to a relatively small degree. A lot of the promotions were toward the tail end of the quarter..

Okay..

The big expense is for our new launches. We've launched new colors that we talked about in some of the prepared remarks. We've got, I think, four new door styles in KraftMaid, we have new SKUs for KraftMaid, and then a significant launch in our Quality offering. So that's the primary driver of the incremental expense..

Thank you, guys..

And your next question comes from the line of Keith Hughes with SunTrust. Your line is open..

Thank you. Just digging in the Cabinet margins a little more. And even when we exclude the $5 million launch cost, it's not quite some of the margins we've seen the last couple quarters.

Can you just talk about within the good sales you saw at retail and at the dealer channel, was there any kind of negative mix within there? And the new launches where the $5 million comes from, what part of the cabinet strata price are those coming in at?.

So, Keith, to answer your second question first, the launches are both in KraftMaid as well as Quality. So really kind of both ends of the price spectrum for us, KraftMaid being our premium price point offering and Quality being our lower price point or opening price point offering. So that's it.

With respect to the margins, again, I hope you guys recall, everyone on the call recalls the fact that we said in our second quarter call that the margins that we posted there were unusually high because we really had a very clean quarter with no unusual expenses or some typical investment that we may have in advertising catalogs and displays, things like that.

So it was a very light quarter for all that type of activity in the second quarter. So that was more of the anomaly.

So the way I look at it, Keith, is if you factor out the $5 million of expense, and with $25 million of business that we walked away from, while it was indeed low margin, it wasn't zero margin, and so there was some loss of profit on the business that we did walk away from.

So net-net, as you look into that – as I look at it, it looks like to me about a 10% quarter to me for the Cabinet segment..

Thank you..

And your next question comes from the line of Ken Zener with KeyBanc. Your line is open..

Good morning, gentlemen..

Morning..

Morning, Ken..

Obviously very good execution in Plumbing, and that business tends to be very resilient because of the large installed base, as you guys have highlighted, with the low peak to trough in the past cycles, I think about 15%. Those very strong margins that you guys did here -- I know we had that $10 million commodity headwind – or tailwind, excuse me.

Would that be the kind of a difference? I'm just trying to think about the almost 20% number versus what is now an upwardly revised high teens for the business over kind of a three-year basis.

Does your growth, not only in Delta, which you're doing very well in, but I mean your vitreous china and these types of things -- how should we think about the steadiness, I guess, of the business quarter-to-quarter? I mean, could it be varying $10 million to $15 million from commodity but, otherwise, you're really in these high teens which, to me, means 17% to 19%?.

Yeah, we're seeing strong, steady growth across both retail as well as wholesale, and we're seeing steady growth in our United States business as well as our international business.

So this is one of the most steady businesses that we have, and you hit it right on the head with regards to the strong repair and remodel component of this business that tends to level it out in terms of peak to trough. We've got strong growth, as I said.

And the commodity environment, when we think about it, we've got some puts and takes, but generally speaking, we see favorable commodity environment with a little bit of pressure coming on the zinc side, but that's offset a little bit from the favorability that we're seeing in copper.

So when we look at the nature of the improvements that we've made over the years with regard to targeted share gain and specific micro-segments, we look at the nature of the cost outset we've been able to drive with the Masco operating system and, really, the quality of the teams, as I mentioned last quarter, we feel pretty good about the stability of this business and, hence, our confidence in raising the margin targets..

Thank you..

And your next question comes from the line of Megan McGrath with MKM Partners. Your line is open..

Good morning. Thanks. Just a big picture question here. I think when I initially saw the top-line numbers this morning, I thought maybe, overall, we hadn't maybe seen a little bit of a deceleration in the repair and remodel expenses or spending by consumers, but there's obviously a lot running through your top lines and onetime stuff.

So in general, it sounds like you're feeling pretty comfortable with consumer spending in repair/remodel.

Do you think we saw a little bit of a slowdown in 3Q, or do you feel like it was steady in the quarter?.

Well, I think the consistent thing about this recover, Megan, is that there has been some choppiness. We'll see a couple of quarters of pretty heated growth and then a little bit more muted growth.

So, yeah, there was a little bit of choppiness here, but fundamentally, the demand drivers and the foot traffic that we're seeing, particularly in repair and remodeling which is over 80% of our business, are strong. Home prices continue to appreciate.

Household formations continue to increase, and the demographics of the millennials as they go on at an average age from, say, 25 to 29 or 30, that's going to bode well for new household formations. Existing homes sales rebounded nicely. They're up to, I think, close to $5.5 million. And the affordability is still very favorable.

So we're not only seeing good fundamentals and good traffic, but we're continuing to see good moves in terms of our mix. So our higher price point products like our high-end Delta, our Brizo brand, our Axor brand, our spa business, things like that, and our Cabinet business, which is a big ticket item, so we're seeing good positive mix.

But we're also seeing good growth down in our entry-level products, which dampens down the mix benefit a bit, admittedly, but I think it – fundamentally, it's a good sign for the nature of the recovery, when you're seeing that kind of growth, both in the, call it, the household formation stage and the opening price point as well as the mix up and the higher mix.

So, yeah, good foot traffic in our dealer base, good retail foot traffic. We feel good about the overall macros..

Okay, thanks.

And then specifically on the paint market, I apologize if I missed this, but did you give gallon growth in the quarter?.

We did not give gallon growth in the quarter. I think it was up low single digits in the quarter..

Okay, great. Thank you..

And your next question comes from the line of Stephen Kim with Evercore. Your line is open..

Yeah, thanks very much, guys, strong quarter. First question, in Decorative Architecture, I think that you indicated that the investment was $10 million, not $25 million in this quarter, and you thought maybe another $10 million to $15 million in 4Q.

So question on that, is there going to be spillover into 1Q next year? And if so, could you quantify it? And was the shower door win already anticipated in your overall $30 million guide that you gave last quarter?.

Yes, Stephen, it's John. Yeah, it – $10 million versus the greater spend in the fourth quarter is just a timing issue as to when some of these expenses are going to hit. And yes, the Liberty shower door win, we mentioned that on the second quarter call that we'd won that program that we'd be rolling it out in the fourth quarter.

So that was contemplated as part of our $30 million aggregate number..

Stephen, to be clear on the numbers, in the third quarter, we spent approximately $10 million, and then we're anticipating spending in at $15 million to $20 million range in the fourth quarter, and that does include the Liberty launch..

Oh, $15 million to $20 million, okay. Thank you for that clarification. That's great. All right. And then second question relates – it's a follow-up to the Cabinet business. If I think about what you said last quarter about what dealer was up and in stock – sorry, retail.

It sort of suggests that the rest of that business is down very dramatically year-over-year. And again, your numbers weren't terribly specific this time on dealer and retail, but it still seems – I'm coming up with numbers probably approaching 40% down year-over-year. And I know there's a lot of things you're doing, the UK business, et cetera.

But maybe you could talk a little bit about your vision for the portions of your business that are not the retail and dealer that would explain what's going on there in terms of big top-line reduction..

Yeah, I think the big driver there, of course, is the builder direct exit, where we've exited approximately $25 million in the third quarter and probably will exit in the range of $15 million in the fourth quarter, and looking forward into Q1 of 2017, in that $10 million to $15 million range in there.

So the big drag on our top line, clearly, is our decision to exit specific portions of this builder direct business, where it's just not good business for us and there's a better supplier for some of these specific builders. So that's the main driver there. In terms of our overall....

Well, yeah....

Go ahead..

Well, yeah, I know, you've been very clear about that. I guess I was talking about what else is in that segment. (38:09).

Yeah, our focus is on growth, and we've had some significant growth in our retail business. That's a very strong segment for us. Beginning with KraftMaid, we've addressed some of our issues in that brand first, and we're growing very nicely in the dealer channel with KraftMaid.

We've launched significant new product introductions with very good execution and outstanding response from the dealer base in our opening price point brand, Quality brand. So that growth hasn't been as fast as we'd like it to be, but it's improving. And this new product launch is going to help.

And of course, Merillat, we're continuing to drive growth through those dealers. So in terms of your overall question with regards to the plan for this business, it's to drive growth. Now, I talked a couple calls ago about pivoting more towards a focus of growth, and we're doing that. We're seeing some good results.

In the UK, it's a little bit of a mixed bag, exiting some unprofitable business and also growing in some other segments over there. But fundamentally, for us, it's about North America driving retail and dealer growth..

Got it. Okay, that's very clear. Thanks very much..

And your next question comes from the line of Bob Wetenhall with RBC Capital Markets. Your line is open..

Good morning. It sounds like you guys had a lot of Kaizen (39:32) moments this quarter..

Morning, Bob..

Just wanted to ask, and maybe off of Ken's question about your excitement around Plumbing, saying it's great in retail and wholesale and it's doing well domestically and international. I've never heard you guys this excited in terms of tone about the macro.

And we were actually concerned about choppiness going into the third quarter maybe due to the election.

Is your kind of view, and maybe I'm not really talking about the quarter but more broad minded, where do you think the consumer is? And I'm trying to get a handle on how you're reading kind of North American R&R going into 2017 and what your thoughts are in Europe with Brexit..

I think in terms of big box traffic and dealer traffic, and when I think about dealer, it's a combination of our spa dealers that I'm close with and I have a lot of contact with and our plumbing wholesale dealers. And when you – and cabinets.

I spent some time out in Boston and New York this past quarter with some dealers out there in plumbing, and they talked about very robust foot traffic. And while there was a little bit of choppiness earlier in the quarter, they're talking about how it's picked up and they feel good about it.

Spent some time in the Midwest with cabinet dealers; same story. Just in general, Bob, good foot traffic and smiles on their faces, not only for our new launches, but also in general how the business was going.

I was at a meeting with 15 or 20 CEOs of building builders, big builders, and they were all robust about how the overall builder market was going. So I wouldn't say I'm any more robust about the macros than I've been in the past.

We've liked where they've been and we think that our brands and our price points and our channel penetration is positioned to take advantage of it. So, yeah, fundamentally, my view really hasn't changed. It's good macros..

And, Bob, I guess with respect to the other part of your question, we're seeing surprising strength compared to some of the headlines that are coming out of Europe, at least within our business. We've had very good performance in Northern Europe – Central and Northern Europe and as well as Asia with Hansgrohe.

And then, our smaller businesses that are in the UK, even since the Brexit decision, we've seen very good growth there. Now, we've seen some choppiness in the end markets, but our companies are performing exceptionally well there. So, we're pleased with the demand that we're seeing out of the UK at the moment..

That's great news. You guys are blowing and going. John, I think you spent around $65 million to $70 million on share buybacks. You guys got a real cash hoard close to $1 billion sitting on the balance sheet. I guess it's a jump-off for either Keith or John.

In addition to the buyback activity, how do you see M&A playing a role? And if you don't find anything you want to buy just because valuations look a little rich in the public market and perhaps the private market, what do you want to do with the money? Thanks and good luck..

Sure, Bob. I think we're going to continue our disciplined capital allocation program. Obviously, number one is always to reinvest in the business. And as you I think all know, our business is relatively capital light with about 2% of sales going into CapEx on an annual basis.

And, Bob, to your point, and then the next thing we have to balance is share repurchases and M&A, and I'm pleased to tell you that we are looking at M&A opportunities, filling our pipeline. Our pipeline is robust, which is good.

To your also point, the valuations are rich at the moment, but we're all looking at acquisitions that have the right strategic fit and the right returns, and so that's going to be a discipline that we instill around our M&A program. And to the extent the valuations are too frothy, will we look to buy back more stock? Yes.

I think that's a balancing act that we have to call on a regular basis depending on how we see the markets develop. And then, periodically, we will continue to reevaluate our dividends as we talked – both Keith and I talked about on the call, we increased the dividend for the third year in a row here in the fourth quarter..

And your next question comes from the line of Stephen East with Wells Fargo. Your line is open..

Thank you. Good morning, guys. One last question on the cabinets.

As you look at 2017, John, maybe you could give us the builder exit impact, what the actual year-over-year impact will be as you walked away from all of these different pieces, and do you have any incremental program launches that we should be factoring into our estimates there?.

So, Stephen, if I understand your question right, the full year-over-year impact of sales loss in a dollar perspective is, I think, roughly $60 million here in 2016 all in between all four quarters, with the roughly $15 million to $20 million coming in the fourth quarter, and then another $10 million to $15 million in the first quarter of 2017.

Then after that, it should really tail off pretty significantly because we made the decision to start exiting the last portion of business in the first quarter of 2016. So really, we should anniversary that effect in the first quarter. So we feel pretty good about that.

And in terms of product launches, our (45:26) team constantly working on new products and working with our customers to launch products? Absolutely. Is there anything specifically we can tee up and talk about at the moment? Nothing at the moment that we feel comfortable sharing..

Okay. Fair enough. And then, if you look at BEHR paint on the aisles of Home Depot, it's definitely being advertised as new low price for some on the MARQUEE, some on the PRO, and it's also happening to your competitor a little bit as well.

But trying to understand, is that just part of this promo that you have been discussing or is that a new permanent price? And just if you could help us out, what type of – if it's a permanent, what type of raw material impact you would have – or a margin impact you would have? And then, raw materials in this space, the TiO2 and oil derived, what are you seeing?.

Yeah, on the promotional side, Stephen – I'll take that. I think there was a few questions in there on commodities and promotion. I'll hit the promo side first.

We did see an uptick – a little bit of an uptick in promotional levels as our competitors are supporting their recent product launches and we did have an increase in promotion in Q3 if you compared it to Q3 of 2015. We've had good success with them this past year with the July 4th and the Labor Day promotions.

We're in continuing discussions with The Home Depot on what levers to pull to drive gallon growth and it's a balance, everything from advertising and promotion, price, rebates. We're looking at everything to drive gallon growth, and we're going to continue to do that throughout the year. It's productive for us.

Our relationship with The Depot has never been stronger. We're focused on gallon growth and it's working. We're focused on penetrating the pro and that's working, hence, the incremental new investment we talked about in the Pro Hub stores. So, things are doing well in paint.

In terms of commodities, John, if you want to talk a little bit of what we're seeing there..

Yeah, Stephen, you mentioned – well, before I get into commodities, one thing I want to amend is my prior answer. It looks like the total exit from our builder direct business, Stephen, will be will amount (47:36) to about $75 million here in 2016. So sorry about that..

Okay, thanks..

As it relates to commodities and paint, we have seen a little bit of very modest inflation in titanium dioxide. We are starting to see a little bit of inflation, which we think might be temporary in some of the input costs that go into the engineered resins. We'll see how that plays out over the course of the next several months.

So, overall, relatively modest commodity headwinds here so far in the first part of 2016..

Thank you..

And your next question comes from the line of Mike Wood with Macquarie. Your line is open..

Hi. Good morning.

First question just on paint, you may have said this, just looking to clarify the advertising expense in third quarter and if you are still on track for the $30 million in the second half?.

Yeah, so we said, Mike, that we spent – of the $30 million, spent $10 million in Q2 – or I'm sorry, Q3, and we expect the balance, $15 million to $20 million in Q4..

Great. And then in Plumbing, I know the margins there are helped by the hedge. What are your thoughts, though, on the ability to pass along the higher commodity prices there in the future? And if you can just speak to the product vitality in Plumbing. Thanks..

Well, it was a great quarter for us in terms of margin, strong growth, favorable commodity environment both helped us out, for sure. We think that we're going to have additional investment in Q4 that we've talked about in promotions and a little bit in product launch, mainly promotions, so that'll be a little bit of a headwind.

But again, as I've talked about in terms of the nature of our improvements that we've driven with our Masco operating system, the strong brands, and where we sit in the aisle and how well we're doing in wholesale, we're comfortable with moving our margin range up into the high teens and we think that's where it's going to be..

And your next question comes from the line of Nishu Sood with Deutsche Bank. Your line is open..

Thank you. So on the Plumbing hedge, I think you've done a good job of breaking that out when it's material. Now we've seen two quarters in a row of tailwind and I think this may be one of the larger tailwinds you've seen in a number of years.

So I was wondering if you could just review the position of those hedges, what specifically has driven these two sequential tailwinds and whether that, based on how you're positioned at the moment, might extend into the next quarter or two..

Yes, Stephen – I'm sorry – sorry, Nishu. As we look at the commodity hedge, principally, we hedge two commodities, that's copper and zinc, because that forms brass, which goes into our plumbing products.

And so if you take a look at the price of those commodities on a year-over-year basis on kind of an average through the quarter based on what the average of the third quarter was in 2015, that impacts the movement in our hedge.

And so we've seen deflation in copper over the course of the last year, and so that's what's created the favorability in the hedge vis-à-vis last year. We have alternatively seen some inflation in zinc over the same period. So that's how that all plays through.

Thinking about our hedge position more broadly, because of the volatility of what we've seen, we've actually started to reduce our hedge position on our metals in terms of having contracts out there and are doing a – have taken a different form of negotiating with our vendors as opposed to relying on the financial markets for that benefit..

Got it. Got it. Okay. And on the pro paint initiative, so exciting investment into these hub stores. Thinking about the evolution of that business, so especially with the hub stores or the greater presence in those stores, are you seeing your – you mentioned double-digit sales growth.

Is the sales growth now principally being driven by greater purchases from existing customers? Is it being driven by new customers? So just trying to get a sense of how that business is evolving organically. And also just in line with that, just wondering when you might begin to break that out sales-wise for us..

The pro market, as we slice it, is about a $6 billion market. So it's a big market for us. And as you might expect, as we're ramping this up, we have a pipeline, if you will, of customers.

So we're constantly out prospecting for new accounts, and the accounts that we've had now, in some cases for a year, year-and-a-half, they're starting to gain more momentum. So it really is a combination of share of wallet of the pros that we got initially and then it's also prospecting.

Certainly as we add new hub stores, these new 100 hub stores that we're adding, there will be a higher percentage of new customers, but fundamentally, we're looking at both. And it's a big market and there's plenty of room for us. We're just getting going..

Okay. Thanks..

Thank you..

And your next question comes from the line of John Lovallo with Bank of America Merrill Lynch. Your line is open..

Thank you for taking my call as well. First question is, I guess, on CapEx was a little bit lighter than we had expected in the quarter, and I think it was down slightly year-over-year. And it looks like you brought down the full-year target.

So I guess the question is, is this exclusively related to the kind of the pull-back on the ERP system, or is there some other things going on there?.

No, John, it just had to do with the timing of expense in the quarter, so I think we're $117 million or so year-to-date. And throughout the year, we did expect a little bit heavier spend in the fourth quarter, just given some of the projects that we have teed up.

So I think we've got – we brought our forecast down from $190 million to $170 million, and so I think we feel very comfortable at that level. But nothing to really read into this quarter based on the expense level that we had..

Okay. Great. And then I guess the last question would be on the ERP system.

Can you just remind us who you're working with? Is this an SAP system?.

It's an Oracle system, John..

Okay. Thanks very much, guys..

And, ladies and gentlemen, this concludes today's conference call and you may now disconnect..