Earnings Call: Q3 2019

Oct 21, 2019

Ladies and gentlemen, thank you for standing by. Welcome to the Lennox International Third Quarter 2019 Earnings Call. At the request of your host, all lines are in a listen only mode. There will be a question and answer session at the end of the presentation. As a reminder, this call is being recorded. I would now like to turn the conference over to Steve Harrison, Vice President of Investor Relations. Please go ahead. Good morning. Thank you for joining us for this review of Lennox International's financial performance for the Q3 of 2019. I'm here today with Chairman and CEO, Todd Bluedorn and CFO, Joe Reitmeier. Todd will review key points for the quarter and Joe will take you through the company's financial performance and outlook. To give everyone time to ask questions during the Q and A, please limit yourself to a couple of questions or follow ups and re queue for any additional questions. In the earnings release we issued this morning, we have included the necessary reconciliation of the non GAAP financial measures that will be discussed to GAAP measures. All comparisons mentioned today are against the prior year period. You can find a direct link to the webcast of today's conference call on our website at www.lennoxinternational.com. The webcast will be archived on the site for replay. I would like to remind everyone that in the course of this call, to give you a better understanding of our operations, we will be making certain forward statements. These statements are subject to numerous risks and uncertainties that could cause actual results to differ materially from such statements. For information concerning these risks and uncertainties, see Lennox International's publicly available filings with the SEC. The company disclaims any intention or obligation to update or revise any forward looking statements, whether as a result of new information, future events or otherwise. Before I turn the call over to Todd, I would like to announce the date of our Annual Investment Community Meeting. The event will be held the morning of Wednesday, December 18, in New York City. Please mark your calendars. Invitations and more details will follow. The meeting will also be webcast. Now let me turn the call today over to Chairman and CEO, Todd Bluefield. Thanks, Steve. Good morning, and thank you for joining us. Let me start with an overview on the Q3, our view on the rest of the year and provide some thoughts on 2020. For the company overall in the Q3, GAAP and adjusted revenue was $1,030,000,000 GAAP revenue was up slightly, including 7% of headwind from the tornado and divestitures, 2% from the tornado and 5% from divestitures. Excluding the impact from divestitures, adjusted revenue was up 6%, including the 2% of negative impact from the tornado and set a new 3rd quarter high. Foreign exchange was neutral to both GAAP and adjusted revenue. GAAP operating income was $157,000,000 up 8%. GAAP EPS from continuing operations rose 11% to a 3rd quarter record $2.94 On an adjusted basis, total segment profit was up 15% to a 3rd quarter record of $175,000,000 and segment margin expanded 140 basis points to a 3rd quarter record of 17%. Adjusted EPS from continuing operations is up 26% to a 3rd quarter record of $3.34 In our residential business, revenue hit a new 3rd quarter high of 638,000,000 dollars Revenue was up 7% from the Q3 a year ago in which the tornado damaged a major manufacturing facility and disrupted our high end business. Revenue from the replacement business was up high single digits and revenue from new construction was up mid single digits. Residential segment margin expanded 80 basis points to a 3rd quarter record 19.8 percent and segment profit rose 12% to a 3rd quarter record of 127,000,000 dollars Our residential business in the 3rd quarter continued to face adverse weather conditions with cooler weather than last year in key swing regions and for the U. S. Overall. This was a significant headwind to residential performance following the cooler and wetter weather of the 2nd quarter. Residential revenue was negatively impacted $23,000,000 or 4% from business not recovered following the tornado. Segment profit was negatively impacted $12,000,000 offset by $16,000,000 of insurance recovery for lost profits. The net $4,000,000 benefit to segment profit was $3,000,000 below our guidance. For the full year of 2019, we continue to expect $99,000,000 of negative tornado impact to residential revenue, a negative $54,000,000 impact to segment profit and insurance recovery for lost profits of $94,000,000 The resulting $40,000,000 of net benefit to residential segment profit in 2019 is unchanged. For the Q4, we continue to expect an impact of approximately $14,000,000 to revenue. We expect an $8,000,000 negative impact on segment profit, offset by approximately $20,000,000 of insurance recovery for lost profits for a net benefit to segment profit of $12,000,000 in the quarter. Taking a step back and looking at the big picture for both core and non core related to the tornado, we continue to expect total insurance proceeds of approximately $372,000,000 We have received $262,000,000 of that as of the end of Q3, and we are working towards receiving the remainder by the end of 2019. The 2019 non core gain expected for the difference in book value and replacement value of assets remains approximately $91,000,000 or a benefit of approximately 1.73 dollars per share to GAAP EPS. Our tornado financial chart is posted on the front page of the company website summarizing the guidance I just discussed. Turning to commercial in the 3rd quarter. Revenue was up 7% to $253,000,000 Commercial profit was up 5% to $47,000,000 and segment margin was down 30 basis points to 18.6%. Commercial revenue in the 3rd quarter was led by double digit growth in national account equipment business. We won 13 new national account customers in the quarter across medical, fitness, entertainment, education, hospitality and retail end markets. Regional and local equipment revenue was up mid single digits. Breaking out the business another way, commercial new construction revenue was up high teens at constant currency and replacement revenue was up low single digits. Both planned and emergency replacement revenue were up low single digits. Our VRF business was up double digits in the 3rd quarter. On the service side, Lennox National account service revenue was up mid single digits. In Refrigeration for the Q3, adjusted revenue was flat at constant currency. North America revenue was up mid single digits and Europe was down mid single digits. Adjusted segment profit was down 10% to $20,000,000 and margin was down 130 basis points to 13.9%. Looking at the end of 2019, we're now in the heating season and the 4th quarter is off to a nice start. We continue to expect top line growth and margin expansion year over year across each of our businesses to exit the year with strong momentum heading into 2020. For 2020, a few thoughts. Setting aside the adverse weather impact we saw in the summer months of 2019, underlying market conditions look solid, led by residential and then commercial. We have regained about 85% to 9% of the business impacted by the tornado and now have now pivoted back to company initiatives to win new market share in 2020 in the coming years. Many of the cost headwinds we saw in 2019 flipped to tailwinds in 2020. We expect commodities to reverse from a $20,000,000 headwind this year to a benefit next year. Likewise, we expect freight to move from a $50,000,000 headwind this year to a tailwind next year. As it stands today, we expect tariffs to still be a headwind in 2020, but less than a $10,000,000 impact that we saw in 2019. We continue to take mitigating actions as well to offset the tariff impact with price. Just as we capture price in 2019 for a 2% yield full year, we plan to capture additional price in 2020. We will continue to make investments in distribution expansion as well as information technology and research and development, but certainly plan to benefit from leveraging SG and A next year. And we will continue to drive our sourcing and engineering led cost reduction initiatives for a similar order of magnitude savings as in prior years. Finally, we plan stock repurchases to maintain our debt to EBITDA ratio of 1.5 to 2 times on a normalized basis. We will put numbers to all these elements for 2020 at our Investment Community Meeting this December, but this provides some color on our current views of 2020. Let me turn it over to Joe. Thank you, Todd, and good morning, everyone. I'll provide some additional comments and financial details on the business segments for the quarter, starting with Residential Heating and Cooling. In the Q3, revenue from Residential Heating and Cooling was up 7% to a 3rd quarter record $638,000,000 Volume was up 6%, price was up 1% and mix was flat. Foreign exchange was neutral. Residential profit was up 12% to a 3rd quarter record $127,000,000 Segment margin expanded 80 basis points to a 3rd quarter record 19.8%. Segment profit was favorably impacted by a 4000000 dollars by a net $4,000,000 of benefit from insurance proceeds for lost profits relative to negative tornado impact in the quarter, which was $3,000,000 less than our guidance. Segment profit benefited from higher volume, favorable price, lower material costs, favorable warranty and tariff rebates for prior periods. Partial offsets included cooler weather, the tornado impact, lower factory efficiency and higher other product costs, unfavorable mix and higher distribution, freight and SG and A expenses. Turning to our commercial heating and cooling business. Commercial revenue was up 7% to $253,000,000 Volume was up 4%, price was up 1% and mix was up 2% on the strength of national account growth. Foreign exchange was neutral to revenue. Commercial segment profit rose 5 percent to $47,000,000 segment margin was down 30 basis points to 18.6%. Segment profit was favorably impacted by higher volume, favorable price and mix, and sourcing and engineering led cost reductions. Offsets included higher commodity and other product costs, tariffs, lower factory efficiency and higher distribution freight and SG and A expenses. In the Refrigeration segment, adjusted revenue was $142,000,000 down 2%. Foreign exchange had a negative 2% impact on revenue. Volume was up 1%, price was up 1% and mix was down 2%. Adjusted segment profit was $20,000,000 down 10% and margin was 13.9%, down 130 basis points. Adjusted segment profit was impacted by lower factory efficiency, unfavorable mix, higher commodity and other product costs, tariffs and higher SG and A expenses. Partial offsets include higher volume, favorable price, sourcing and engineering led cost reductions and lower freight costs. Regarding special items in the 3rd quarter, the company had net after tax charges totaling $15,300,000 This included $5,900,000 for the partial advance in the Q2 of insurance recoveries related to lost profits, dollars 4,800,000 for restructuring activities, $2,700,000 for other tax items and a net charge of $1,900,000 for various other items. Corporate expenses were $18,000,000 in the 3rd quarter compared to $28,000,000 in the prior year quarter. Overall SG and A on an adjusted basis was $143,000,000 flat with the prior year quarter. Adjusted SG and A was 13.9 percent of adjusted revenue, down from 14.7% in the Q3 a year ago. Net cash from operations in the Q3 was approximately $235,000,000 compared to $266,000,000 in the prior year quarter. Capital expenditures proceeds from the disposal of PP and E and proceeds of property damage totaled $24,000,000 compared to $13,000,000 in the prior year quarter. Free cash flow was $211,000,000 compared to $253,000,000 in the prior year quarter. The company repurchased $150,000,000 of stock and paid $30,000,000 in dividends in the 3rd quarter. Total debt was $1,450,000,000 at the end of September and we ended the quarter with a debt to EBITDA ratio of 2.2. Cash and cash equivalents were $46,000,000 ending the quarter. Now turning to our guidance for the company overall for 2019. We are updating guidance for adjusted revenue growth from a range of 2.2% to 5% to a new range of 2% to 4%. We are updating GAAP EPS from continuing operations from a range of $11.91 to $12.51 to a new range of $10.65 to $10.95 This includes a non cash pension settlement charge of approximately $28,900,000 after tax or approximately $0.73 a share that we expect to recognize in the Q4 of 2019. Similar to what we did in the Q2, this pension settlement charge relates to an agreement we entered into with Pacific Life Insurance Company in October to annuitize $78,000,000 of our defined benefit pension obligation. As part of this transaction, we also transferred $75,000,000 in pension assets to Pacific Life. This event required a remeasurement of the pension plan and resulted in a non cash $28,900,000 after tax settlement charge we expect in the Q4 to write off the related accumulated actuarial losses. We continue to expect a pre tax gain of $91,000,000 in 20.19 related to factory reconstruction costs and the associated gain from replacement value above book value. For adjusted EPS from continuing operations, we are updating guidance from a range of $11.30 to $11.90 to a new range of $11.15 to $11.45 Now let me run through the other key points in our guidance assumptions and the puts and takes for 2019. First, the guidance elements we are updating. For price, we still expect a 2% yield for the full year, but with lower volumes through the summer season, this now equates to $75,000,000 versus the prior guidance of $80,000,000 Corporate expense is now expected to be approximately $85,000,000 down from our prior guidance of $90,000,000 primarily due to lower variable compensation. Free cash flow is now expected to be approximately $320,000,000 for the year compared to guidance of $390,000,000 The change is due to approximately $15,000,000 of lower earnings and $55,000,000 of inventory. Given the tight labor market for manufacturing employees, instead of reducing direct labor as is typical for a cooler summer, we decided to be more level loaded we decided to more level load production from the Iowa factory and pre build some product for 2020, which will burn off over the course of the year. For the 2019 guidance elements that remain the same, we still expect a $25,000,000 benefit from sourcing and engineering led cost reductions. We continue to expect $20,000,000 headwind on a full year basis from commodities. We still expect $15,000,000 headwind from freight and $10,000,000 from tariffs. We continue to expect headwinds of $15,000,000 for distribution investment and $15,000,000 from SG and A. Net interest expense is still expected to be approximately $45,000,000 and we still expect an effective tax rate in the range of 22% to 23% on an adjusted basis for the full year, most likely on the low end of that range. The weighted average diluted share count for the full year is still expected to be between 39,000,000 to 40,000,000 shares, which incorporates the $400,000,000 of stock we repurchased this year. And finally, we still plan approximately $155,000,000 of capital expenditures with $55,000,000 of that funded from insurance proceeds. And with that, let's go to Q and A. And our first question is from the line of Julian Mitchell with Barclays. Please go ahead. Hi, good morning. Hi, Julian. Hi. Maybe just the first question on the residential business. Just give us some updates, Todd, on how happy you are with the commercial side of things in terms of sales and market share traction? And also within resi, any updated thoughts on incremental margins over the next 12 or 18 months? You've got perhaps more efficient refreshed operations now in Marshalltown and some tailwinds or normalized cost environment. So just wondered how will that roll together for overall resi incrementals? On the small C commercial side, I think we're satisfied where we're at is the way I'd put it. I think we're happy with the end markets. I mean the consumer still strong adjusting for the tornado impact. Well, revenue and resi was up 7% and we had negative 4% of tornado impacts up 11% if you adjust for that. So I think the end market still feels strong or consumer still feels strong. And then what we guided at last call of recovering 85% to 90% of the tornado impact, that's still where we're at. That's where we'll end the year at. In Q4, we were a little less than that in Q3 if you go through all the math, more like 75% and we'll end the year at 85% to 90% of it recovered. In terms of the drop through, I think everything you said is true. I think the numbers will be clouded by the fact that the $40,000,000 of net insurance recovery was a one time item in 2019. But if you strip that off, the things you talked about are true. And then I'd lay on top of that, given some of the softness because of weather in 2nd Q3, we've taken some action on the SG and A side and cost containment as we go into 2020. And so I think that will help the margin drop through also. Thanks. And then my second and last question just around the Commercial segment, Capital C. You'd lowered the end market outlook a touch for North America back on the last earnings call, good revenue numbers today in commercial, I think, particularly in the new construction or OE side. So maybe just give any updates about different verticals. Were you surprised by what's happening in Commercial? Any color on backlogs? Going into Q4, our backlog is up slightly in the Commercial segment. I mean, we had a really good Q3, but it was chunkiness of some large national accounts. As you saw in the script that it was driven more by new construction and replacement growth. And again, I think that's just timing year over year differences. So pleasantly surprised in Q3. Again, the verticals that are hanging in there most for us, believe it or not, continue to be retail as they both build and replace small office buildings, so entertainment, theaters and light healthcare. So those verticals continue to stand up and we were pleasantly surprised in the quarter. Great. Thank you. Thanks. Next we go to Jeff Hammond with KeyBanc Capital. Please go ahead. Hey, good morning guys. Hey, Jeff. Hey, just going back on kind of the moving pieces with insurance recovery and the lost EBIT. So I guess of the $54,000,000 of lost EBIT in 2019, just given some of the share recapture that you're not getting, how much of that do you expect to get back ultimately and with some of the mix dynamics? I would pausing to make sure I've thought about it that right way. Out of the 54 for lost profits, I want to sort of fire from the hip and say, I will look over a 2 year period. So I'd look at what we lost in 2018 and what we lost in 2019 and we're going to get 75% to 90% of that back both on revenue and on profit. So I wouldn't look narrowly at the 54%. I'd have to look at sort of the 2 years combined and say we're going to get 75% or 85% to 90% of that back. Did I say that right, Steve? Okay. There's no mix dynamic from that being higher mix share that you're not getting fully back or No. I think over the longer term, the mix will be fine. I mean, we'll guide it all in 2020. I think there's some absorption and productivity issues that were buried in that 54 that may not come back, but it will be absence of badness is goodness is one way to think about it. Okay. And then, just a couple on Refrigeration. 1, maybe just give us a view of the demand outlook into 2020. And I think you mentioned some manufacturing inefficiencies. Just talk about what's going on there. Thanks. Yes. I mean, in Refrigeration on an end market, we were flat in revenue was flat in Q3. What we're seeing in North America is the market continues to be hanging in there low single digits. We were up mid single digits for the quarter. Europe, we're seeing some slowdown, specifically in Germany, where we have a process cooling business where auto is a large vertical and as everyone understands, that's slowing down. And even in our commercial HVAC business, which is predominantly France and Spain, we've seen some slowdown. So this continues to bubble along in North America, slowing down in Europe. And then I think there was a question about factory productivity. The issue that we're seeing in refrigeration and then also quite frankly in commercial is a very tight labor market where our factories are located at. Refrigeration in North America, it's Georgia. In commercial, it's Arkansas. And the lack of improved efficiency year over year in the factory in large parts driven by the labor scarcity, it's hard to find and hold on to folks and that's impacting what we can do in the factories around productivity. Okay. Thanks, Todd. Thanks, Jeff. Next we go to the line of Ryan Merkel with William Blair. Please go ahead. Thanks. A couple of questions. So first, I just want to understand the resi profit performance a little bit better since it missed my model. So is the story simply lower absorption and unfavorable mix and that was offset by positive price cost? Is there anything else to think about? No, I mean I have a Q and A here and you answered it, but I'll rattle through it, so everybody hears it directly from me. I mean the margins being down 300 basis points adjusted for the tornado, really 2 major drivers you hit them. 1 is mix down year over year. And a big driver of that is our entry leveled Allied business that has lower margins was up over 20% in Q3, much less impacted by the tornado than what our Lennox business was and also some mix down, quite frankly, with some customers. And the second was factory productivity due to lack of absorption. Joe talked about on the cash side that we allowed the Marshalltown, Iowa factory to continue to throttle level load. But our other North America factories, we had to take down production because of Q2 and Q3, and we had pretty significant negative absorption that impacted margins. And those are the 2 major drivers. Got it. All right. Well, you sort of answered my next question. So we should be looking at the unfavorable mix as sort of a one off this quarter. We wouldn't extrapolate that into 2020. I wouldn't extrapolate it into 2020. I think what we'll do is we're going to snap a new baseline and we'll move forward and I think mix will improve. In fact, our guide will be for mix to improve next year. Perfect. And then just lastly, maybe just a little color by geography would be helpful. I'm most interested in the Midwest and Southeast, if you can give us anything. Yes. The key swing regions where we saw the most impact from weather was the Northeast and the upper Midwest. And if you look at degree cooling days since July and August where it really mattered, it was down about 10%. And that's sort of the swing areas, Chicago, up to through Pennsylvania, through Ohio, up into the Northeast. And those were down and had an impact on our revenue. And sort of on the flip side, you look at a state like Texas, cooling degree days were up 9% in Q3 and our revenue was up 10%. So again, just like in Q2 where it's cooler, revenue was down. Unfortunately, we're more skewed towards the North than others. And where we had warm weather, revenue was up significantly. Perfect. Thanks. Thanks. Next is the line of Steve Tusa with JPMorgan. Please go ahead. Hey, guys. Good morning. Hey Steve. So I just want to kind of be clear on this resi margin dynamic. You're saying that there are things that will flip or at least turn next year. I mean, it sounds though like it would have been worse if you didn't run your factories and kind of a level load over time. So shouldn't that be somewhat of a material headwind next year? So I mean, are we talking about more of a, okay, this will improve off of a lower base, but not necessarily flip next year? Just trying to kind of understand what are the kind of one time items and on a kind of a net basis, how should we think about this? Maybe just some color around, hey, this on a net basis, it should have been the margins would have been 50 basis points higher or something like that to give us some idea given all the moving parts here for next year? Well, let me directly answer the absorption point. We did one factory that accounts for about 25% of our hours and we level loaded it, more level loaded than we normally do. I'd also tell you that it sort of came down, it just didn't come down as much as the volume would have better stated. Production was down year over year, but it wasn't down as much as the volume would have demanded that we do it. And then the other 75%, which is our other 3 factories in North America, we took those down. And so sort of on a year over year basis, it's going to be more sort of avoidance of bad news and it's going to be having a tough comp year over year, if that makes sense. And then I think if I understood your question, and I probably won't give you as much granularity as you might want, but order of magnitude of our margins were down 300 basis points in resi year over year adjusting for tornado, Order of magnitude, about 40%, 45% of that was mix, about 40%, 45% of that was factory productivity and then there were sort of knits and gnats of other things that I won't bother to call out. Got it. Okay. That's helpful. I guess when we kind of why are we haven't we kind of anniversaried the tornado comp? I mean, why are we still calling out kind of like lost profits and lost sales from this at this stage of the game? Well, I mean, because we guided for 2019, we thought it would be sort of chicken shit halfway through the year to quit talking about it. So we won't talk about it going into 2020, but we gave full year guidance. We thought it was appropriate to continue to guide through the year. Got it. Number 1. Number 2 is sort of the impact of the tornado didn't follow a calendar that 12 months afterwards everything was completely gone. We guided at the beginning of the year for when the tornado happened that this is going to be order of magnitude and 18 month recovery and that's sort of the guidance that we're giving. Okay. Any update on the consolidation dynamics over the next 12 months? Any update there on how you're viewing that or no real change? HVAC consolidation? Yes. I mean, we, as you know, think the industry could benefit from consolidation. We'd love to participate and it's going to require others to sort of make a similar calculation, but we'd love to participate. Got it. Okay. Appreciate the color. Thanks. Thanks. Next, we go to Robert McCarthy with Stephens. Please go ahead. Good morning. Can you hear me? Yes, I can. Hi, Rob. Good. Well, I guess, moving on from Chicken Shit, let's talk about the 4th quarter dynamics or actually it might be doubling down. Could you talk maybe you talked about strength in the Q4 and then also some of the dynamics around the season in terms of obviously anecdotally, I think cooling degree excuse me, heating degree days should probably be up given some of these episodic events we've been seeing so far in the month. And then also, obviously, the compare and association with the disruption last year. Can you talk about kind of the factors and how that's shaping up at least qualitatively for the Q4 in your residential business? Yes. I mean, high level, it's the elements that you talked about. I said we're off to a nice start, which is a calibrated word that we're halfway into the 1st month and things look good. But when you think about the months and the quarter, it's in essence a third, a third and a third this year between October, November December for us. And so there's still a lot of work to do. I think the important thing to get through in October is this sort of bridge period. And what I mean by that is, it's not really cool enough for dealers to rush out and buy furnaces. So in some ways, they're buying on faith and sentiment. And the fact that we're off to a nice start in the case that dealers are still confident and feel good about things as they go into the furnace selling season. And then as we get deeper into the furnace selling season, November and certainly December, then it's more about the weather driving demand. But yes, we feel pretty good about things, but there's still a long way to go for the quarter. As a follow-up, I mean, you said some tantalizing things about obviously your rise in growth at Allied. And obviously, some of that's due to comps for NATO disruption. But you did cite anecdotally some trade down there. Obviously, the cycle still looks good because excluding kind of the tornado impact, you're kind of comping to close to double digits. But are you seeing anything on the horizon that's getting you incrementally nervous about consumer replacement as a whole? No. And I wouldn't the Allied point was to mathematically explain the mix down. It's not to make a point that overall the consumer is mixing down, it just explains our math. I mean our growth in Allied's across the board a great story. We're converting distributors from our competitors, sort of all the noise some of our competitors about investments that they're making, is the business going to be sold, how is it going to be handled, allows us to convert those distributors from others competitors over to our business. And that's all good news for us. It's just we don't sell Dave Lennox Signature Series. We don't sell 26 year and Allied. We don't sell sort of all the high end products. But net net, it's incremental to our margin or our EBIT margins and very good business for us, and we're just doing very well there. So actually, it's more of a share story given the disruption we're seeing with some of your competitors with these standing up? Yes, that's exactly. So we have the tornado overhang on Lennox, but our Allied business doesn't have that. And so all the initiatives that we've talked about are paying off there and we're getting share. All right. And the last question, I don't want to delve too much into political views because probably not particularly helpful on call for a variety of reasons. But given the fact that we could be seeing perhaps some more progressive administration and policies over the next with the next election cycle. Is there anything that's been on the drawing board for energy efficiency or increased standards of global warming being accelerated? Anything around codes, standards or practices that could be very stimulative to your business across the board or anything you'd cite? No. I think the point I would make, and again, in the spirit of being apolitical is, as a business person and certainly in our industry, having clarity and advance warning on regulations is critical. And so quite frankly, you tell us the rule book and give us enough advance warning, we'll play by it and make good money off it. The danger is when things change quickly and swing one way or another, that causes problems. And so I would expect whatever new policies could put in place, whoever wins the election, I would hope we'd have advanced warning and clarity of what the changes are going to be. Thanks for your time. Thanks. Next, we go to the line of Robert Barry with Buckingham Research. Please go ahead. Hey, guys. Good morning. Good morning. I just wanted to follow-up on a few earlier things. First, you touched on the weather helping some places, hurting others. Was there a kind of net estimate for what it impacted you by in the resi segment in the quarter? We didn't it's hard to know Robert. We didn't even do that. I don't think we did that in Q2. Net net it was degree cooling days were down about 5% or so for the quarter and especially in the swing areas that's where it hurt us. Got it. And I know you I think touched on this briefly earlier, but the price in resi kind of stepping down from what was 4 last quarter to just 1 this quarter? What was driving that? I think that's just lapping on the price increase. We had a midyear price increase last year where we sort of jammed it hard, and we lapped that. And so now we're just, if you will, comping against the beginning of the year price increase, which is a more traditional yield of 1, 1.5. Got it. So when we think about price for 2020, you seem confident you'll get some, but it sounds like that should be a pretty modest expectation. Is that fair? Well, I think I go back to years where we had significant commodity deflation and the markets were strong. We still got 0.5 point of price. And so my expectations would be that's absolutely the floor, but I think we'll do better than that. Got it. And then I just wanted to clarify how to read the comment about the $23,000,000 impact from the tornado on the resi revenue. Is that how much you are still down since before the tornado? Correct. I'm turning to people and making sure that's the answer, yes. Well, I think like last year, you had a headwind of 50. You've clawed back an implicit 27. So you're still down 23? Correct. Got it. And so that 27 versus the 50% implies about just over 50% recovery? I think if you add the 2 years together, I'm looking at the data to make sure I got it right. I'm sorry, I don't have that piece. It's the 1st year of the recovery. When I did the math on Q3 and I added the 2 together, I got about 65%. So I'll double check the math and we'll make sure we gave it to you right. Okay. Well, just to clarify, when you say you expect to get 85% to 90% back over how much time is that? We're expecting as we go in the Q4 when you do the math over a 2 year period, you look what we lost Q4 last year, what we lost Q4 this year. And then how much of it we clawed back, it will be about 85%, 90%. Got it. And this 23,000,000 on this. The $23,000,000 that is kind of the 2nd year of loss impact here, is that going to be covered by insurance or at what point? Okay. So if next year you're still down 10%, 15%, like where do you just kind of snap the line and it's just insurance won't recover won't pay? Is that still up for debate? Yes. We're expecting to have full insurance recovery by the end of the year, and we're in negotiations with them about what's transpired so far and then what we're projecting will happen in the future. And that's sort of all in the guide that we've given now. So we'll work that through with our insurance providers who I assume are listening. In terms of our guidance going into 2020, and Steve and I sort of talked a little bit about that, when we go into 2020, we're not going to talk about tornado anymore. We'll snap the line at the end of 2019 on public guidance. And so we'll give revenue and we'll give EBIT and we'll talk about misses and overachievements and tornado won't come up after the end of the year. Got it. And sorry, just one more. Do you know what year to date your kind of ex tornado margin is in resi? I'm calculating like just above 18, but I'm turning the guys. We can get you that answer, Robert. I don't have that math right in front of me. Yes. Because I was just curious if your expectation would be that next year, whatever that number is, would that be up, flat or down? Our sense is, it should be up year over year. All right. All right. Thanks a lot. Okay. Thanks. Next, we go to Gautam Khanna from Cowen and Company. Please go ahead. Hey, thanks. Good morning, guys. Good morning. A couple of questions. First, I was wondering on parts plus rollouts, what's the expectation for the number? How many have you done this year and what are you expecting next year? I'll turn it on someone to make sure I got the right number for this year. So on a year to date basis, we've done a handful this year, sort of relatively flat. We've opened a couple of stores, closed a couple of stores. As we go into 2020, we're still finalizing what we want to do for new store build. I think majority of new stores next year most likely will be second half of the year. We're also aggressively just looking at now that we're up to 200 how many stores do we have? 36. Now that we're up to around 240 stores, we're also sort of looking at what we should prune and what we should get out of and we've identified some stores that we're closing between now and the end of the year because they're just not covering. They're not a handful of stores. So those would be some sort of net eliminations and then some additional stores added. Okay. And in terms of the national account business and commercial, what sort of is the pipeline of opportunity there still as robust as it appeared to have been going into the Q3? Just curious, like what are the forward indicators there? Yes. I mean, as I called out earlier, backlog is up slightly in our commercial business. When we entered the quarter, it was up from memory high single digits. Customers are still strong. They're still spending money. I think it's I don't think I know. This time of year, we do some business, mostly planned replacement at this point, very little new construction or less new excuse me, new construction. And they're looking towards the Christmas many of our retail customers towards the Christmas selling season decide what they're going to do. So I think net net, it's still solid. I think it's less solid maybe than it was a year ago. I don't know about quarter over quarter because of the macroeconomic uncertainty. So there's some risk there, but customers still feel pretty solid. Okay. And just to round out your comment on pricing, getting some net price next year in resi. Have you seen or do you anticipate any change in competitive behavior with Ingersoll splitting with carrier splitting, what have you? Just anything that you've seen or that you are starting to be concerned about incrementally? No. Haven't seen any changes. Don't expect any changes on that dimension. The people who whether you're part of a larger conglomerate or not, they understand that they need to price to offset commodity increases and labor shortages and all the things freight and tariffs and all the things we have to price for. And so we're confident we're going to get price and I don't think industry dynamics are going to change. Okay. Joe, one last one. Q4 tax rate, I'm just making sure we're conforming. What are you guys implying there? Yes. For the full year, I think we'll be slightly above the 22% rate, but for the full year, we'll be closer to 22%. So that's what I would expect in the Q4. Thank you, guys. Appreciate it. Thanks. Next, we go to the line of Deepa Raghavan with Wells Fargo Securities. Please go ahead. Hey, good morning. Couple of questions from me. So still a pretty wide range coming into Q4, especially since you said a nice start. Just curious, what's embedded in the high end versus low end, especially for residential growth? I mean your resi mix margins should get better. You're going into the seasonally margin and a higher margin furnace sales season. I guess where I'm trying to go with this is, is there any scenario where you might have lost some furnace demand because of the limited pre buy that happened in spring? And also maybe you have this lower overall dealer recapture? Any impact? How do I think about the lower end versus higher end given your range? Short answer to the back end of the question, no. We don't think we've lost Other than the tornado impact that we've publicly called out over and over again, we're not losing furnace share. In fact, when we look at the numbers, the public numbers in July August, we think we're doing well and it's sort of tracking the way we expect it to. So I don't think there's any concern there. I think the range on the high end, it's we residential markets will or at least our revenue is a little stronger than what we think it might be or could be or better stated at the midpoint of our guidance suggested. And so I think the real swing is residential revenue. I don't it's not really mix, it's residential revenue. Market share gains going forward, just given your experience with the dealer recapture coming in slightly below expectations? Is the 50 bps of share gain still what you're planning, albeit from the lowered base? Just curious what if that's the case, what drives that confidence now? And especially as you're lapping all these stronger market share gains that cumulatively you have accumulated cumulatively over the years? Thank you. Yes. Our guide will be 0.5 point of market share. And I get confidence because of strategies that we focused on continue to work. I think building out distribution, we've taken a pause for that and I suggested we'll take a bit more of a pause as we go into beginning of 2020, but that's still a strategy that works. The significant investments we're making on supporting our dealer network through e commerce and prognosis and diagnostics with our iComfort Controllers, all our abilities to support the dealer on our Lennox Pro's portal, all those things are still working. All the investments we make in having the best product lines. So the strategy still work and we're making significant investments to growth. And even in this tornado year, we've continued to make investments and we'll see those benefits in 2020. So there's a sort of and also just quite frankly, we've done our best even though the numbers have sort of moved around a bit to be a bit of a duck, right? So what we publicly show is every we're the sailing's clear and we're gliding. But underneath, the team has been paddling very hard and paddling very hard and doing lots of work to offset the tornado to take care of customers and work through complaints and manage inventory levels to get the right product to the right people and handle a lot of negative phone calls. All that now goes away because we have the product, we can support everybody and all of a sudden you snap a line and you're back on the offense rather than on the defense. And that's now behind us. And so we're doing all the work now quite frankly with many of our customers to convert new dealers to win in 2020 and we're focused on doing that. Thanks. Next we go to Nicole DeBlase with Deutsche Bank. Please go ahead. Yes, thanks. Good morning. Hi, Nicole. Hey, so I guess, just two questions around margins into 4Q. On the commercial segment, I think the expectation was for a return to year on year expansion in 3Q. You kind of talked about the reasons why we didn't see that. But can we see commercial return to year on year margin expansion in the Q4? And then similar question with Refrigeration since the comp so easy. Yes. We expect both Commercial and Refrigeration margins to be up year over year in Q4. Okay, got it. That's helpful. And then around price cost, I think you guys had like a $17,000,000 positive impact in the second quarter you expected that to be a high watermark. Can you just give us a sense of what the price cost impact was for 3Q and whether it steps down or remains similar in the 4th quarter? I don't have that number handy, so I'm turning to Steve to see if he has it. I think the short answer is the price element of price cost will be roughly the same in third quarter 3rd Q4. And then the impact from commodities continues to trail off in 4th quarter. So my guess is we might even be a little bit more positive price cost in 4th quarter than what we were in Q3. Okay, got it. Thanks. I'll pass it on. Okay. Next, we go to the line of Jeff Sprague with Vertical Research Partners. Please go ahead. Thank you. Good morning, guys. Good morning, Jeff. Hey, just two quick ones for me. First, I appreciate kind of moving on from the tornado. But if you end up having residual insurance recoveries, kind of just cleaning up the loose ends, will you disclose and let those let us know what those are in 2020? Absolutely. Yes. I mean, we're going to be completely transparent on the insurance. We won't pad our number with insurance. We'll let you know. Terrific. I appreciate that. And then just on the free cash flow, dollars 70,000,000 cut on a $10,000,000 net income cut at the midpoint. Is that $60,000,000 all the inventory we're talking about? Or is there something else going on there? Yes. I mean, when we lowered the cash guide from $390,000,000 to $320,000,000 as Joe said in his call, I think he said this in his call, dollars 15,000,000 of that is from lower earnings. So just we're making less money because the earnings went down. And then $55,000,000 is from the inventory. And then as Joe talked about, that's tied to the tight labor market. It's having more level loaded production at Marshalltown, our Iowa factory. And then because typically what we would have done would have been or the playbook if you're managing just purely for working capital would have been we would have throttled down in August and then we would have had to throttle back up in January, December, January to start getting ready for the cooling season to union workforce and its tight labor market. And so the thought and it's fragile because we just got everything up and running. The thought of ramping down, having everyone bid out on new jobs, reshuffling everybody and then 3 months later ramping back up, finding workers, reshuffling all the union jobs again, just seems so disruptive to the business. And so the and we're not making lettuce. So everything we're building, we're just building it 3 or 4 months early. So one way to think about this is everything being equaled, cash because of inventory will go down by $55,000,000 in 'nineteen, but everything being equal, whatever you had in your model will go up by $55,000,000 in 2020, as we burn off that inventory. And just thinking about kind of the rebuilt footprint, if you will. I mean, your inventory turns were drifting down a little bit before we got to tornado. Obviously, they're lower now on all this disruption. But where do you think you can get your turns to once we kind of stabilize everything? We're going to continue to focus on it. I mean, I haven't publicly given an inventory target or a turn target. I think it's I tend to think about it more as it's a competitive weapon for us to build out distribution, to build out parts stores. We want to keep our turns relatively flat or slightly improving. We certainly don't want them deteriorating like they have been over the last year because of the tornado. But when the cost of debt is so cheap, if we can gain if it's a driver of gaining half point of market share and we can win new customers with inventory as a distributor product business, we're going to focus on that. So short answer is, we haven't publicly given a target, but and we think about it, but I think more in the whole context of total shareholder return. Great. Thanks for the color. Thanks. Next, we go to Joe Ritchie with Goldman Sachs. Please go ahead. Thanks. Good morning, guys. Good morning. So my first question is just on the commodity tailwind that you alluded to earlier in your prepared comments, Todd. So just any color that you can provide us on the how much of your commodity tailwind next year is going to be copper and whether you're locking in a certain percentage of that this year? When the commodities that we buy in order of importance are steel, copper and aluminum. And steel, we have some fixed pricing, but most of it's variable tied to market pricing during the prior quarter that we then get a discount on. Copper and then aluminum, we hedge or technically use forward contracts. And 12 months out, we're about 50% hedged. And so we're I don't know the exact number, but above 50% hedged, I think, at this point for 2020 and that we're locking in some of the benefits already. Got it. Okay. That's helpful. And then just maybe touching on freight a little bit, any qualitative comments you can talk about on obviously $15,000,000 headwind this year, but what you're seeing in the freight market and how that could swing potentially next year? Yes. A couple of things. One is, we made some system investments in our freight transportation to have better visibility on freight and I think that's going to help us. I think more fundamental is a softening in the freight market overall, and I think we'll be beneficiaries of that as others are. And so the thinking is we're in a process of negotiating rates for next year, and so we'll know more as we negotiate those rates. But when we look at spot pricing, what's happening in the marketplace where it was a year ago, it reflects the slowdown in some segments of the economy, auto, for example, which is a major driver of freight rates in North America, and we think we'll be a beneficiary of that. And can you just quickly remind us how much of your freight cost is spot versus contracted? I don't think I've ever publicly said that. If I had to guess, I'd say it's 75% contract, 25% spot, but that's a bit of a wild ass guess. Okay. Thanks for the color. I feel like President Trump, a sworn slice and a conference call. I'll get back in queue. Thanks again. Next we go to Josh Pokrzywinski with Morgan Stanley. Please go ahead. Hi, good morning guys. Hey, Josh. Tom, I was wondering if you could help out a little bit with the sequential dynamic on mix and resi. So I understand weather kind of played a role in both quarters. Obviously, you had a little bit more time to get your feet underneath you. But anything specifically that we should read into kind of the 2Q to 3Q margin progression? Anything about the market that was heavier on the mix side or would have shown up in 1 quarter versus another and maybe help kind of triangulate that dynamic? No. I mean, I think we had some mix headwind last quarter too. And so I don't think it was we had positive mix last I don't think we had I think we had negative mix last quarter also similar dynamics. It just didn't rise to the level that we spent a whole lot of time talking about it. So no, I don't I think the other piece would be the part that I caught out that Allied growth was dramatic this quarter and that's just the timing of new distributors that they signed on and when they got the business. And so I think it's more about Allied than anything that was happening in Atlantic. Got it. And would price cost have been better sequentially? I know you probably don't want to get into that half of the long term. Just I would imagine directionally though that was probably better. I think price cost is better in Q2 than Q3 because we hadn't lapped the midyear price increase yet. So I think costs were better in Q3 than Q2. But from memory, we had 4% of price in resi last quarter and we have a little bit over 1% this quarter on a year over year basis. Got it. And then just one last one for me. I mean, we hear a lot about a good amount of inventory being out there in the channel, more competitively than necessarily something specific to Lennox. But has that at all kind of impaired the ability to regain share that maybe there's just too much inventory to go after folks this quarter? And should that normalize into next year and make the work easier? I would broaden thematically, I'll agree with you, but I'll broaden the answer a little bit and just say, it's always tougher to gain share in a soft market than a more robust market. And so certainly even more so in Q2 than in Q3 that hindered some of the gaining back some of the customer business because it's just tougher to do that in down market because the other guys as focused as you are is hanging on to things. And again, as Robert and I went back and forth, I mean, we're not to the 85% yet, but our guide is that in 4th quarter, we'll be back to have 85% to 90% of the lost revenue gain back and then we'll roll into 2020. Understood. Appreciate the card. Thanks, guys. Next, we go to the line of John Walsh with Credit Suisse. Please go ahead. Hi, good morning. So a lot of ground cover, just maybe finer points on a few questions. As we think about the free cash flow bridge into next year, I just want to make sure we're understanding it or I'm understanding it correctly. But we're going to have we had from last quarter some push out of CapEx that went from 2019 into 2020 and then we're going to have this kind of inventory dynamic from this quarter. Anything else to be mindful of or are those the 2 big moving pieces of the bridge? I think those are the 2 moving pieces of the bridge. I'm looking at Joe to make. Yes. No, those are the big pieces you got. Okay. And then I guess, also around the earlier question about Refrigeration margins, you do have the easy comp. Any more finer point you can put on that? Should we think about normal sequential decrementals? Or do you want to kind of throw a range out there to help with the modeling because it can move around? For Refrigeration? Correct, yes, for Q4. Yes. No, it's a short answer. Sorry, John. Again, I think, as you said, we had a tough we have a much easier comp or we have an easy comp over last year, and we think the margins are going to be up in Q4 even on relatively flat revenue. Got you. And then maybe just one last one here. From a high level, as you think about the regulatory environment, a couple of questions earlier on that. I mean, should we just think about it as kind of a steady drumbeat of kind of change pushing towards higher efficiency than really anything on the horizon that might be a step function change? Is that the correct way to think about it? I mean, that's how we think about it. I mean, I think anything is possible. But certainly, the way the industry has worked with a few minor exceptions over the last 30, 40 years has been a constant increase in efficiency, a constant improvement in the type of refrigerant that we use. And we typically have 5 I think by law it's 4 years that we have to have advanced warning. And sometimes oftentimes we have more than that. And again as long as we know we can work through the technology with our supplier partners to do what we need to do. All right. Appreciate it. Yes. Thanks. All right. Thank you. Thanks. Next, we go to Nigel Coe with Wolfe Research. Please go ahead. Thanks guys. Good morning. Thanks for the question. Hey, so, so just I mean I hate to use the word Tonirogain because I think we're already at record levels here. But adjusting for the lost market share in 3Q last year, 3Q this year, so roughly 3% like for like growth in residential. Number 1, is that kind of like in line with what you're thinking? How does that compare to the markets? And I'm not sure if you actually talk about what you thought the actual market did. And if you did, I'm sorry for missing that. But how is that 3% compared to the market? I'm not sure what the market is going to do. I think that I have some math down here somewhere, but when I think about the year over the sort of the 2 year growth, it's about 4%, 5% revenue growth over a 2 year period. And that I think that's obviously less than the market, but that reflects the share loss that we got because of the tornado. Okay. But you think would you say 3% would be better than the market this quarter? I mean, I think most people have seen an increase can be flat to down this quarter. I think we're going to see. Watsco announced earlier, we're certainly in line with them. Yes, okay. And we'll see what the others do. And then just going back to the Allied performance, 20% up for Allied and looks like the core Lennox was probably flattish. That differential between the 2 brands, is that what we've seen in the past? Or I mean, again, just thinking about this potential mix shift with the consumer, but is that differential unusual in time? Yes. I mean, but again, I think what it I mean, it reflects 2 things. It reflects the tornado impact primarily in the Lennox brand and sort of all the disruption associated with that. And then it shows the lumpiness of selling through independent distribution. And so when Allied gains shares, because they have converted a large distributor and significant share accrues with that. And so being up 20% in a quarter just reflects the timing of converting distributors. Okay. And then a final one for me. The commercial market, there's obviously a lot of bull bear views on that more bears than bulls. What is your view as we go into 2020 on commercial construction and commercial HVAC? Flat backlog, you had an easy comp this quarter compared to last quarter, but how do you think about that market in 2020? We'll true everything up in December. I think it's I think flat sort of the best scenario we can think of, but we'll give better guidance when we get closer to the at the December Analyst Day. Okay. Thank you very much. Thanks. And our final question And our final question is a follow-up from Steve Tusa with JPMorgan. Sorry for the follow-up. Just listening to kind of all the puts and takes and just kind of like looking at the model a bit. With the insurance dynamics and then all the other kind of nits and nats that you highlighted, Can you guys do you think you'll be able to kind of grow earnings in 2020? I mean is that kind of a base case assumption that you will grow earnings in 2020? Well, I mean let me just refresh the math for others. For 2020, you have to adjust the $40,000,000 net benefit for insurance recovery that was above lost profits for 2019. So that means if operationally we're $40,000,000 better than we have flat profits year over year. Short answer is our target is to grow earnings, but we'll guide all that on the 2020 call. Okay. And then one last one just on resi. Is an unreasonable way to look at it, to look at kind of the 2017 base? And then just kind of assume what we're going to assume on growth for 2020 and then take those 2 and apply like a 30% to 35% incremental margin on that? Or is the business somehow meaningfully different and there will be different headwinds and tailwinds on kind of that kind of just taking the tornado impacts out entirely. Is that a bad way to look at it? I mean, the way I would build the model would I would do it that way. I would take out all the tornado stuff. I would look at 2017 as a base case and then I would look at the 2020 revenue. I think I might have it closer to 30 than 35. But I would start there. Excellent. All right. Thanks for the color, guys. Appreciate it as always. Thanks. And we'll be turning the conference back to you, Mr. Harrison. Okay. That's my biggest compliment of this call is to be called Steve Harrison. So thank you. To wrap up, as we move into the heating season, the 4th quarter is off to a solid start and we look forward to a strong finish to the year. The residential market continues to look robust, weather aside, commodity costs are trending down for more price cost benefit moving forward, and investments we have made in products and distribution set us up well for 2020. I want to thank everyone for joining us. Ladies and gentlemen, that does conclude your conference for today. Thank you for your participation. You may now disconnect.