Good afternoon, everyone, and welcome to the PPG Industries second quarter 2018 earnings conference call. My name is Jamie, and I will be your conference specialist today. All participants will be in a listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star and then one using a telephone keypad. To withdraw your questions, you may press star and two. Please also note today's event is being recorded. At this time, I'd like to turn the conference call over to John Bruno, Director of Investor Relations. Sir, please go ahead.
Thank you, Jamie. Good afternoon, everyone. Once again, this is John Bruno, Director of Investor Relations. We appreciate your continued interest in PPG and welcome you to our second quarter 2018 financial results conference call. Joining me on a call from PPG are Michael McGarry, Chairman and Chief Executive Officer, and Vince Morales, Senior Vice President and Chief Financial Officer. Our comments relate to the financial information released on Thursday, July 19, 2018. I will remind everyone that we have posted detailed commentary and associated presentation slides on the investor center of our website, ppg.com. The slides are also available on the webcast site for this call and provide additional support to the opening comments Michael will make shortly. Following Michael's perspective on the company's results for the quarter, we will move to a Q&A session.
Both the prepared commentary and discussion during this call may contain forward-looking statements reflecting the company's current view of future events and their potential effect on PPG's operating and financial performance. These statements involve uncertainties and risks, which may cause actual results to differ. The company is under no obligation to provide subsequent updates to these forward-looking statements. This presentation also contains certain non-GAAP financial measures. The company has provided, in the appendix of the presentation materials, which are available on our website, reconciliations of these non-GAAP financial measures to the most directly comparable GAAP financial measures. For additional information, please refer to PPG's filings with the SEC. Let me introduce PPG Chairman and CEO, Michael McGarry.
Thank you, John. Good afternoon, everyone. Let me start by reminding everyone that we communicated on June 28th that PPG's audit committee had completed its investigation into allegations of violations of PPG's accounting policies and procedures. We have filed restated financial statements for the fiscal years 2016 and 2017 and certain quarterly periods within those fiscal years in order to correct PPG's previously issued financial statements. The restated financial statements, additional details regarding these restatements, and the findings of the investigation are contained in PPG's Form 10-K/A and Form 10-Q that were filed on June 28th, 2018. As you all know, PPG has been in existence for 135 years and has earned a reputation as a highly ethical and credible organization. I am disappointed that there was a need to restate our financial statements. Our audit committee and I are participating in the oversight of the remediation plan.
As I said in our press release, we are 100% committed to take actions that are consistent with our ethics and values and fully meet the expectations of both internal and external stakeholders. Unwavering adherence to our core standards of financial integrity and honesty remains a top priority and a focus for all PPG employees. To date, we have made good progress addressing the corrective actions identified during the audit committee investigation. I am personally committed to ensuring that PPG will have a robust control environment and look forward to reinstating our reputation. As we have disclosed, we have proactively communicated with the SEC on this matter. It is PPG's policy not to discuss matters that are being reviewed by regulatory bodies. Finally, I want to share my appreciation with all our stakeholders for your patience as we have worked our way through this investigation.
I will move on to our second quarter results. Today, we reported second quarter 2018 financial results. For the second quarter, our net sales were approximately $4.1 billion and our adjusted earnings per diluted share from continued operations were $1.90. This represents an adjusted EPS growth rate of nearly 6% for the quarter, which included benefits from a lower tax rate year-over-year. The earnings growth we achieved was despite elevated raw material inflation and higher logistic costs during the quarter, which we partially offset with selling price improvements and strong cost management. In addition, we continue to benefit from our ongoing cash deployment focused on earnings accretion. For the second quarter, our reported net sales were up almost 9%, while our sales in local currencies increased by about 6%.
Supporting the higher local currency sales were volume growth of more than 3% with balanced contributions from both of our reporting segments. For the first half in aggregate, volumes grew nearly 2%. Selling prices increased more than 2% in the second quarter, marking the fifth consecutive quarter of improvement over the previous sequential quarter. While modest in overall magnitude, in certain business units, we continue to decline some volume as we pursue higher selling prices and prioritize margin recovery. Foreign currency translation was still favorable year-over-year, but by a lower amount in comparison to the first quarter, as the U.S. dollar strengthened during the quarter against several key currencies. Sales were favorably impacted by approximately $90 million from currency translation and pre-tax income favorably impacted by about $15 million. We expect foreign currency translation to turn to a headwind in the third quarter based on current exchange rates.
Looking at some of our business trends in the second quarter. In the Performance Coatings segment, aerospace coatings delivered an excellent quarter with slightly more than 10% volume growth led by above-industry performance in the U.S. and Asia Pacific. Automotive Refinish continued to grow organic sales by mid-single-digit percentage, supported by above-market performance in all regions. Architectural Coatings EMEA sales volumes were down slightly in the quarter as consumer demand subdued, and we are prioritizing selling price initiatives. Sales volumes in Architectural Coatings Americas and Asia Pacific grew at low single-digit percentage, aided by continued strong organic sales growth in the U.S. and Canada company-owned stores. Volume in our DIY business in U.S. and Canada were slightly higher as sales to Lowe's continued, albeit at a lower rate than the prior year. We benefited from a successful launch of our award-winning PPG Olympic stain products at The Home Depot.
Sales volumes also grew at our Mexican PPG Comex business, including the benefit of opening an additional 52 stores in the second quarter. Protective and Marine Coatings sales volumes increased with continued strong protective coating sales in Asia. The marine business has stabilized at a low base and is expected to gain more traction in 2019. Our Industrial Coatings segment delivered solid organic sales growth of approximately 3%, which included continuing improvement in selling price from the previous quarter. Sales volume and packaging coatings were up mid-single digit percentage as the adoption to our Innovel interior can coatings products continued. Selling price increases were also achieved. Automotive OEM Coatings sales volumes increased at low single-digit percentage and were similar to global industry automotive builds. This business outperformed the market in Europe and Latin America.
As expected, in China, our sales volumes increased by high single-digit percentage, matching the improved industry build rates for the quarter. We also continue to grow sales volumes in our general industrial business with above-market growth rates in Europe and Latin American regions. In addition, our general industrial selling prices continued to gain traction in the quarter. From a regional perspective, for the company overall, sales volume growth was the highest in the emerging regions. Sales in the Asia Pacific region were driven by strong growth in our aerospace, automotive refinish, and protective coatings business. Sales in both China and India grew at low teen percentage. Our China business met our expectations of a strong quarter after a softer first quarter. Going forward, we anticipate sales growth in China could be more uneven as recent uncertainties around trade policies and tariffs potentially impact economic activity in the country.
Sales grew at a high single-digit percentage in Latin America, supported by continuing outperformance by the businesses in Industrial Coatings segment and strong Automotive Refinish and Architectural Coatings sales volumes growth. Sales volumes were higher year-over-year in Europe. A mid-single digit percentage increase in the Industrial Coatings segment was offset by slightly lower sales in Architectural Coatings EMEA. We anticipate that the Industrial Coatings business will continue to deliver growth in the third quarter as regional industrial production remains favorable for a broader continued economic recovery. Sales volumes were also higher in the U.S. and Canada in the second quarter, supported by strong sales volumes in our packaging and aerospace coatings business, along with solid sales growth in Automotive Refinish business. From an earnings perspective, our second quarter adjusted earnings per diluted share of $1.90 was nearly 6% improvement versus the prior year quarter.
Our earnings were impacted by elevated raw material and logistics cost inflation in the quarter, including the impact from elevated oil prices. In aggregate, raw material inflation was about a mid-single digit percentage increase year-over-year, and similar to what we experienced. Costs and availability of transportation equipment were also higher this second quarter 2018. We expect both these costs to remain elevated during the third quarter. In the second quarter, we continued to make progress on our selling price initiatives. Prices increased by more than 2% on a year-over-year basis as both of our reporting segments realized higher selling prices. We have secured further price increases for the third quarter and will continue to prioritize collaborating with our customers on further selling price initiatives. In addition to selling price initiatives, we are making good progress with our efforts on raw material efficiency.
As one example, we now expect to further reduce our TiO2 requirements by more than 1% this year. We also remain focused on aggressive cost management. Our December 2016 restructuring program is tracking to our targeted savings, and in the second quarter, we initiated a new restructuring program to help mitigate the previously announced architectural customer assortment change and to further offset the inflation we are experiencing. This new program will result in annualized savings of about $85 million upon full implementation. In aggregate, we expect these restructuring efforts to deliver between $45 and $50 million of savings in the second half of 2018. In addition, earnings per share benefited from our ongoing cash deployment actions. This includes the impact of our repurchase of more than $450 million of PPG stock in the second quarter. In the quarter, average diluted shares outstanding were 5% lower versus the second quarter 2017.
Our effective tax rate was 22% in the second quarter, which is lower than the 24% rate from the second quarter 2017. The reduction is related to recognizing certain discrete tax items in the second quarter and the tax reform legislation that was implemented at the start of 2018. We still anticipate a full year tax rate between 23% and 24%. As we look ahead, we still expect continued positive momentum in overall global economic growth. Our third quarter sales are typically lower than the second quarter due to traditional seasonal trends, and we anticipate normal seasonal patterns this year. The heightened uncertainty around certain recent trade policies could create uneven growth by region and industries in the second half of 2018. In particular, we are closely monitoring our business in China for any possible impacts.
Currently, the new tariffs are starting to add some modest cost to our raw materials. Based on the strength in the U.S. dollar in the second quarter, we expect foreign currency exchange rates to have an unfavorable impact to our sales in the third quarter. Based on current rates, the unfavorable impact is expected to be between $60 to $80 million for the third quarter. Specific to our businesses, we expect housing starts in the U.S. to continue to improve in the second half of 2018. We believe that U.S. regional automotive industry builds in the second half of 2018 should be higher than 2017 due to the natural disasters that last year impacted automotive production. In Latin America, we anticipate similar economic expansion as we experienced in the first half of 2018.
Growth rates in Asia are expected to modestly decline in the second half, mostly driven by uncertainties in China. We expect automotive build growth rates in China to grow in the third quarter, but at lower levels than those realized in the second quarter. We expect economic expansion to continue in India after a very strong first half. Economic growth in Europe is expected to continue in the second half at a similar rate that we saw in the second quarter. Favorable end-use market trends are expected to continue, driven by positive growth in industrial production and automotive builds. For PPG, this regional growth will be tempered by subdued architectural coatings demand. We will continue to manage all elements of our business within our control to ensure that we remain competitive regardless of economic conditions.
Based on the current cost environment, we anticipate that our selling price and cost management initiatives will drive improvement in our Industrial Coatings segment margins by the fourth quarter of 2018. As previously communicated, our sales of PPG Olympic products into Lowe's have stopped at the end of the second quarter. As I mentioned earlier, our launch of PPG Olympic stain products into The Home Depot has met our early targets, and we are pleased to be working more closely with the outstanding team at Home Depot. We expect that the net impact of these customer assortment changes will result in reduced third quarter Performance Coatings segment sales of between 200 and 250 basis points, and thus PPG's total sales of between 100 and 150 basis points for the remainder of 2018.
With the actions we have already taken and plan to take in the coming months, we fully expect to offset the margin impact to this net sales loss in the year 2019. We are continuing to invest in growth initiatives, including targeting certain growth spending in the third quarter, with plans to spend up to an additional $5 million, similar to the second quarter. Finally, we ended the second quarter with about $1.1 billion of cash and short-term investments, which continues to provide us with significant financial flexibility. We remain committed to deploy a minimum of $2.4 billion of cash in 2018 on acquisitions and share repurchases as part of our previously communicated target to deploy a minimum of $3.5 billion in 2017 and 2018 combined. The acquisition pipeline in our industry remains active.
We continue to be highly interested in participating in our industry's consolidation, we'll remain disciplined in our approach. We plan to continue to repurchase shares in the third quarter. This concludes our prepared remarks. Once again, we appreciate your interest in PPG. Now, Jamie, would you please open the line for questions?
Ladies and gentlemen, at this time, we'll begin the question and answer session. To ask a question, you may press star and then one using a touch-tone telephone. If you are using a speakerphone, we do ask that you please pick up your handset before pressing the keys to ensure the best sound quality. To withdraw your question, you may press star and two. Once again, that is star and then one to ask a question. We'll pause momentarily to assemble the roster. Our first question today comes from Christopher Parkinson from Credit Suisse. Please go ahead with your question.
Thank you. Can you just give us a little color on the breakdown of the raw material basket and what you're currently seeing, as well as your general outlook for the second half of into 2019, and also just how you're assessing the potential to further raise prices in order to recover your margins? Thank you.
Well, let's start with the easy one first. We have price increases announced in the second quarter, we are evaluating and will be announcing further increases As we speak. That's the easy one. The pressure on raw materials, think about propylene as a significant driver of that. You have emulsions up. That's a significant one. Of course, you got acrylates up. You have the pressure coming from the higher oil prices, that's impacting solvents. You have packaging costs are also up. My favorite, of course, is epoxy. Those are all ones that we're feeling pressure on. The good news is, for a number of these things, we're taking action. Whether it's the TiO2, where we're trying to optimize the formulas, and I mentioned earlier, 1% lower consumption.
Packaging, where we're looking at how do we optimize our packages, that one as well. I would say, those are the primary pinch points, Christopher.
Thank you. Also, I think we all understand why the focus remains on architectural volumes given recent developments. Can you talk about what you're seeing on a sequential basis, in your general outlook for general industrial coil packaging and aero? Just how should we think about the growth there and also, the margin contribution in the short and long term? Thank you.
Okay. Let me see if I get all the businesses you mentioned.
Sorry.
We'll start with aerospace. Fantastic business, terrific performance. I mentioned on the call that we're going to be up 10%, and we were up 10% in the second quarter. Strong performance across all the different platforms, whether it's sealants, packaging, transparencies, coatings, all of them doing well. Military is strong, commercial is strong, and we see general aviation coming back. A very solid team, performing at a very high level in that regard. General industrial. The places that are, I would say, on the upper end of the range. Automotive parts are continuing to do well. Electronic materials, probably low single digits. Wood, kind of flattish. Coil, doing well, as you can imagine. That's a strong commercial market. Transco doing well. Appliance, we started to see a little slowdown in appliance. You have the trade uncertainty, the tariffs.
I think our appliance guys are going to be looking at this a little cautiously. I don't see demand change, but I do see inventory in the system, work in progress change. Of course, heavy duty equipment remains very strong. Christopher, did I catch-
About last one is packaging, Christopher. I'll tell you, this is Vince. The packaging business for us, as I know you know, has been a good performer as we introduce our BPA-NI and high technologies further. We continue to outperform the market of mid-single digits this quarter. Market that's low single digits. We expect that to continue. We're in the middle innings of the BPA-NI conversion process. We still feel there's a good runway left.
Great. Thank you both.
Our next question comes from David Begleiter from Deutsche Bank. Please go ahead with your question.
Thank you. Michael, on the U.S. and Canada company-owned stores , strong performance in Q2, also strong performance in Q1. What did the market grow, either in Q2 or Q1, or combined? How are you outgrowing the market as it appears you are?
First of all, I don't know that we are growing anything but at the market rate. I think if you look in our presentation where we have the heat chart, you'll see that we've color-coded ourselves at market for U.S. That would be my first comment. I think, this trend of strong performance in the stores, as you know, this has been a multi-year effort to close the gap in that area, and the team has worked really hard to close that gap. We're getting price. The market is strong. Of course, the shift from DIY to do it for me is what's really driving why the trade business is outperforming the DIY business.
Very good. Michael and Vince, just on the $85 million of cost, can you break down between how much was allocated to Lowe's and how much is this designed to offset the other cost inflation you highlighted?
Yeah, David, this is Vince. Walking around numbers, certainly more than half or close to two-thirds would've been allocated to support what I would call not only our customer assortment change, but look at geographically, our U.S. business. The remainder would be rest of world. We won't break it any finer than that. We are battling, as you know, David, raw material inflation everywhere. Rest of world, we're trying to offset that with pricing, and the other lever, obviously, is with efficiency and cost. Then again, the portion for the U.S. would be split between our architectural business and other businesses.
Got it. Thank you very much.
Our next question comes from John Roberts from UBS. Please go ahead with your question.
Thank you. Solvents usually follow oil more closely than other raws, and you mentioned propylene as well. In the Industrial segment, I think probably has more exposure to petroleum-based raws. Is that the biggest difference of the different margin performance we have between the two segments this quarter?
I would say that is certainly one significant factor. You got the epoxies that are in there as well. When you look at the raw material basket. The other factor is, it's much more difficult to get price with our global large OEM customers. Although we are starting to get it lags the other businesses. You could see how we, in Performance Coatings side, that gap has closed much quicker than the gap on the Industrial Coatings segment.
That said, John, I'll just reiterate what Michael said. We're out with customer increases, or excuse me, selling price increases to all our customers in Q3. Certainly, a portion of those are pointed at our Industrial segment and the businesses within that segment. We're comfortable we'll get traction with some of those, certainly, increases.
Michael, I think you mentioned the new tariffs were having a modest impact on your Chinese raw material costs. What would be the raw material most sensitive to the tariffs that have gone in?
John, for us, probably the most sensitive and direct one is what we call tin plate. You can imagine a lot of tin goes into paint cans. That's the one that we're watching most closely, with respect to the tariffs that are announced.
Great. Thank you.
Our next question comes from Ghansham Panjabi from RW Baird. Please go ahead with your question.
Thank you. Good afternoon, guys. First off, on Auto Refinish and your expectation of moderating growth in North America, I think you called out lower collision claims and miles driven in the second quarter. Do you view that as part of the normal shift in the market during the course of a year, or is it something more secular that concerns you?
The miles driven is only up like 0.2%. Typically, miles driven is more driven by the economy and employment. This is a clear sign that people Ubering around and taking shared vehicles and public transportation, and that as having a slightly, I would say, very modest impact on miles driven. Collision claims, I would say is much more cyclical. You should have less accidents during the summer than you will have during the winter. Of course, we will start to see the impact to some of my favorite activity, which is hail, which doesn't hurt anybody, but yet leads to a lot of opportunities for our refinish business. That will be something that you'll have some offsetting that's a positive during the August-September timeframe.
Got it. Then on packaging in Asia and the share loss that you experienced as part of your price increase initiatives, this business, in theory, has high switching costs. I guess, were you surprised at the share loss, or was it sort of the coatings on the outside of the cans? Thank you.
I would tell you that our Asian customers are willing to send messages much more frequently than our U.S. and European customers. Even though there are switching costs, sometimes they'll want to punish you. As you know, we've had five quarters in a row of price increases. One of the reasons why our volume was up this quarter is people have stopped punishing us. In Asia, some of that behavior still exists.
Got it. Thank you, Michael.
Thanks, Ghansham.
Thank you.
Our next question comes from Bob Koort from Goldman Sachs. Please go ahead with your question.
Thank you very much. Maybe extending from that a bit, Michael, you had obviously very good volumes this quarter, two out of the last three, and I think you had suggested maybe in the past that the underlying demand was better, but there was some blowback from the price hikes. It seems like your competitors now are playing ball or at least talking of the same more aggressive moves on pricing. Should we expect that we can see this more GDP type volume growth in the future, or is it still too early to call?
First, I think it's too early to call because we're going to continue to prioritize margin recovery. Second, I think we're going to be a little bit hampered as we tried to explain in the prepared commentary with the impact of the customer assortment change at Lowe's. By and large, we do see more customers taking price. We see more of the market talking the same need to have margin recovery. There should be less opportunity for people to shift volumes around to take advantage of what I would call salespeople who aren't paying attention.
Could I ask on Europe, it seems like architectural trends there have been pretty uninspired for quite a long time, and I guess I always envision the paint market as being fairly constant, maybe low growth, but reasonably sustained growth. Why can't you guys get better volumes out of the European markets in architectural?
Again, I would say that's a little bit choppy. We've done exceptionally well if you go back the last three, four, five years in the U.K. We had a little bit of a setback in the Benelux when the people that were not maintaining the There's a large rental market in the Benelux, and they kind of prioritized cash recovery for a while. Now they're back painting. We do see fairly decent growth there. Eastern Europe, I would say, is slightly better. The big challenge is France is our biggest market by far, Bob, and retail is soft. The one thing I would tell you is I was just over there a month or so ago, and I saw more cranes over in Paris than I've seen in a long time. Consumer sentiment is up. I've been joking with my friends over there.
The French won the World Cup. Hopefully, that'll take them to spend a little more money. We do have to recognize that there is some portion of our business that people have a choice of where to spend their discretionary dollars. Right now, they're much more focused on experiences than they are on home improvement. Unlike in the U.S., where you're getting a pretty significant return on your investment when you put your money in your house. I haven't given up. If your question is, have I given up? The answer is absolutely not. The good news is we're doing pretty well, earnings-wise. We just need to continue to capture our fair share.
Great. Thanks for the help .
Thanks, Bob.
Our next question comes from Frank Mitsch from Wells Fargo. Please go ahead with your question.
Hey, good afternoon, gentlemen. Michael, that World Cup cuts both ways. I would imagine that productivity was probably a little bit lighter over there over the past several weeks.
I don't accept that excuse from my team.
I certainly could understand that it would not be applicable to a company based in Pittsburgh. I want to come at the pricing question just a little bit differently. You've got a string of positive year-over-year prices. I think it was like 0.1% in 3Q 2017, 1% in 4Q, 1.6% in 1Q, 2.2% in 2Q. Is this something that we? You've got pricing initiatives in place. Should we think about the order of magnitude of price as kind of accelerating here, and we're going to be approaching that 3% mark? How do we think about the overall magnitude of price?
Well, I do think price is accelerating, and I think that's a reasonable assumption to make. I do think that there's more to be asked for and gotten in this marketplace. When we think about the logistics now, we've stacked logistics costs on top of raw material costs. Our sales teams are heavily focused on that capture.
Got you. Also going back on looking at the lovely heat map, seems to be a fair amount more green on the screen now, relative to last few quarters, and a little bit less red. I think you were saying that you're expecting end-use market activity comparable to the second quarter. Understanding that seasonality takes it down from 2Q, but on a year-over-year basis, it seems like absent the issue with Lowe's, that you're still calling for a pretty good volume quarter. Is that correct?
Well, I certainly would like to see that. I'm confident the team recognizes the importance of getting price first. I would say your conclusions are probably accurate.
Frank, I think as Michael said in the prepared remarks, we generally feel the economies around the world are pretty healthy. We think they'll be so in Q3, obviously, depending upon global trade discussions. Right now, we're running at a fairly good clip in most of our end-use markets.
Got it. Thanks so much.
Thanks, Frank.
Our next question comes from Jeff Zekauskas from J.P. Morgan. Please go ahead with your question.
Thanks very much. It looks like your cash flow from operations was down by about $250 million year-over-year for the first half. Is that roughly right? Are you going to be able to generate the same amount of cash you did last year in 2018? Because of higher raw material costs, that's too high a bar to reach?
Yeah, Jeff, I think your numbers are fair. The biggest cash use we have is the first six months of the year. Even though our working capital as a percentage of sales is even with last year, our sales are up, so we actually have more working capital in terms of dollars. By far, that's the biggest use of cash year-over-year. Your numbers are accurate.
PPG used to generate much more cash than it did net income, and your cash conversion over time has really come down, where it's more or less equal to your net income. Do you have any targets or plans as to what your cash conversion should look like over a longer period of time?
Yeah. As I think you're aware, Jeff, the last three years, we've shaved roughly 100 basis points off of our working capital as a percent of sales. In some of those years, we were growing sales. The big contributor was the 100 basis point reduction. That's still our target this year. Again, I think that'll allow us to grow our operating cash flow higher than our earnings, to your point.
Okay, great. Thank you so much.
Thank you.
Our next question comes from Kevin McCarthy from VRP. Please go ahead with your question.
Yes, good afternoon. Your corporate line under operating profit looks like expense declined materially in the second quarter on a year-over-year basis, and that was the case in the first quarter as well. Would you comment on what's driving that and what your outlook is for future quarters there?
Yeah, I'll comment on the difference and then John's going to probably comment on the outlook. Kevin, we've made a significant amount of effort over the past couple of years in some of our cost pools such as pension and OPEB costs. Those have driven that corporate expense line down. In addition, this year and past year, the incentive comp number for the corporation has also been lower. Finally, we did have in the first half of the year, positive intercompany foreign currency. This would be assets and liabilities between our foreign affiliates and our domestic, obviously our headquarter parent company. When currencies move, we have to take those intercompany balances and true them up to $. In the first half of the year for both quarters, that was a positive. We do expect some of that to reverse as the currencies have flipped.
John, do you have the forecast for that?
Yeah, Kevin, this is John. For the second half of the year, we would be looking at between $75 million and $90 million for both quarters. I think as you go into next year, I think the run rate will come down from 16. I think a lot of people have been looking at the 16 run rate, and through a lot of efforts, a lot of different actions, whether it's benefits and pensions or through workforce reductions, we have a lower base now. I expect our run rate going forward to be lower as well.
Just for clarity, the $75 million-$90 million is total for both quarters.
Understood. That's helpful color. Second question, if I may, relates to your new restructuring program of $85 million. What are the sources of those savings? I think you made a comment that you expect $45 million-$50 million in the back half of 2018, but I think that included your old program from December 2016. Maybe you can help us understand the flow through on the new $85 million and how much will be this year versus next.
Yeah, Kevin, John again. Let's talk about the 2016 program. Most of those actions are done. Now we're realizing the benefits, and that's working out to be a $13 million-$15 million a quarter benefit per quarter that should sustain itself into Q1 of next year. The new program has started. We're going as fast as we can with the program. Probably be at a full run rate early 2019, but really a significant contribution as we get into Q4 on that program as well.
Okay. Thank you very much.
Our next question comes from Patrick Lambert from Raymond James. Please go ahead with your question.
Hi, good afternoon. Is the reception okay?
We can hear you, Patrick.
It's just the French, Patrick.
Okay, good. Yeah, it's pretty far away from you guys. A few questions. The first one concerns, I think your comments on EMEA Deco volumes that you somehow let go, if I heard correctly during the comments. Where do you think these volumes have gone, if I may ask? First question. Maybe I'll ask the question later following your answers.
Yeah, Patrick, this is Vince. As Michael said, we're prioritizing selling prices in the region over volume. There is a marginal volume that are going to folks who are not following the same philosophy as us. As you know, in particular because you live in the region, that there are several much smaller players in the region than you would find versus the U.S. market. There are folks who are willing to take substandard profitability business.
Yeah. Mostly lower players, smaller players picking up volumes.
Correct.
The second question regards the Again, sorry, I could not understand completely the Lowe's impact in H2, how to model the top line of the lack of contracts there.
Yeah.
H2 2018.
Right. Patrick, this is John. The $120-$150 range represents the net impact. It would be the loss at Lowe's and the gains at The Home Depot, and it would be off of our expected revenue, total revenue for the company.
Okay. The last one, last question on industrial margins. I think there's about a good 400 basis points year-on-year difference of EBIT margin. As I heard, the OEM is likely to be the largest contributor to that. Is there any big discrepancies between the other sub-segment of industrial that can explain that big gap?
Yeah, Patrick, we typically don't provide our business unit details below the reporting segment. Again, as Michael alluded to, we have very large customers in that segment, global customers. They're typically good at deferring price increases. We're starting to get traction, as you see in the numbers now. We expect that to continue.
We expect the prices acceleration also in Industrial Coatings. Actually, maybe more pronounced in Industrial Coatings than in-
We expect further pricing in both reporting segments. Correct.
Thank you.
Thank you, Patrick.
Our next question comes from Don Carson from Susquehanna. Please go ahead with your question.
Thank you. Michael, you mentioned that you thought Industrial margins could be better year-over-year by Q4. Are you expecting gross margins for the overall company to be better year-over-year by Q4, or is part of that improvement in Industrial also some of your cost cutting?
Hey, Don, I'm going to take this. For us, we're looking at the reporting segment margins, which is what Michael was alluding to. That would include pricing actions, but also the cost actions that John mentioned. It'd be a cumulative of both of those to get us on a reporting segment basis on a flat year-over-year.
Said another way, overall, you don't think you're going to get improvement in gross margin year-over-year till you get into calendar 2019 for the overall company?
Too early to call 2019, Don. We're tracking the Q4 reporting segment margins flat, that would include some benefit from items below gross margin.
Okay. A follow-up on U.S.-
We are totally focused on the second half of the year.
Okay.
Getting this margin recovery.
A follow-up on U.S. Architectural. Two questions. One, do you need more price there given that emulsions continue to go up and solvents and packaging costs are going up as well, do you have a third price increase on the table? Secondly, you've been getting such good volume growth in your company stores. Is there any thought to accelerate your expansion plans on the company storefront in the U.S.?
There's no question that there's a raw material price pressure in Architectural U.S., and the other one is logistics cost, and that's not just from our DCs to our customers, but also from our plants to our DCs. You got two levels of logistics cost in there. We are actively evaluating the appropriate timing for that. We're not in a position that we can talk about that. That is under active evaluation. As far as the store expansions, we are selective in that. We've added in the markets that we're best in. Think about the Texas market. That's an area that we've continued to invest in. We're selective on where we're doing that, and we will do that on an as-needed basis.
Obviously, we're more aggressive in Canada, where we're the market leader, and we're less aggressive in certain segments where we're far away from the market leader.
Thank you.
Don.
Our next question comes from Duffy Fischer from Barclays. Please go ahead with your question.
Yeah. Good morning or good afternoon. First one, just Michael's comment on FX being negative $60 million-$80 million in Q3. Was that a sequential or a year-over-year number?
Duffy, this is John. That's a year-over-year number.
That's a sales number. Sales number, Duffy.
Yeah. Okay. Could you parse out the big buckets of raw materials? We've talked around a lot of different pieces and parts, but epoxies, solvents, TiO2, which do you see moderating in the back half, and which do you see continued pressure upwards? Do you get any relief in the next year in any of those buckets?
Well, I think we've talked about TiO2 moderating. I think that one, we see supply increasing in TiO2. I think we're pretty consistent on that. The propylene one, though, is a bit of a concern for us. If you look at it, propylene in the U.S. is up 28% year-over-year in the U.S., and 30% year-over-year in Asia. There's still more pricing pressure likely to come through in anything that touches propylene.
In oil derivative solvent, your guess is as good as ours, Duffy.
Yeah, WTI is up 40% year-over-year, and Brent's up 50% year-over-year.
Fair enough. Great. Thank you, fellas.
Thanks, Duffy.
Thanks, Duffy.
Our next question comes from Steve Byrne from Bank of America Merrill Lynch. Please go ahead with your question.
Yeah. Was there anything that kept you from being a little more aggressive about share repurchases in the second quarter? Just looking at the share price, thought you might have been more aggressive, but perhaps it's a reflection of what you're looking at in your M&A pipeline.
Yes. I think you answered your own question. We are always trying to keep our powder dry so that we can do acquisitions. We're always looking at the pipeline. We would prefer to do acquisitions. That's number one on our target list. If we can't do it, we're not going to let the cash sit on the balance sheet, so we're going to put it to work. I think that's how we're looking at it.
Steve, we said all quarter, a very active pipeline in the coatings space. There's certainly, in our mind, going to be deals done this year. Whether we're the one who tracks the deals or not remains to be seen. We're going to remain disciplined, but it's an active pipeline right now.
Very good. On the inflationary cost pressures, we've talked a fair bit about the raws. On the logistics side, would you say that shift between those two is becoming a little more problematic on the logistics and transportation side? Do you have the power to push price because of an awareness of logistics costs? Is it as challenging as it is with higher raw material costs, or does it give you a little more support on pushing price?
It's certainly not the magnitude of the raw material increases, right? It's an adder. If you think about high jumping, it's adding another foot to the high jump bar. All our customers are impacted by that. Some of them can argue, "Well, we don't buy oil, we don't buy this, and you should offset the raw materials." I can assure you there's no customer that isn't impacted by logistics increases. That makes some of the selling arguments that we have out there easier to sell because they can't deny that.
Very good. Thank you.
Thank you.
Thanks.
Our next question comes from John McNulty from BMO Capital Markets. Please go ahead with your question.
Yeah, thanks for taking my question. With regard to the logistics, can you give us a rough idea of what that nugget is for you in terms of % of your either cost or sales, just so we have a clue, and then how to think about how much it's up year-over-year?
Well, again, a number we typically don't like to give out, John. It's certainly in the single digits, call it mid-single digits as a % of sales. We kind of give you some kind of guardrails. Right now, it's up a double-digit %, as most companies are seeing.
Okay, fair enough. I guess if I think about the costs or the raw materials, I guess, and price, I understand it doesn't necessarily work on the margin %. If I'm doing the math right on mid-single digit cost inflation and 2% plus price, it looks like the two kind of net each other out. Are we thinking about that right? If that's the case, I guess when you think about bucketing where some of the other headwinds are, how should we think about the bigger buckets and what the real pressures were this quarter?
If the two netted out, I think we'd be having a different dialogue right now, John. We're still climbing the hill to get our raw materials back with price. As you pointed out, we made good progress, good traction, but we still got more to do. As Michael mentioned, we're stacking now on top of that freight. Some of that freight goes in the gross profit line. That might be another element for you to consider. We have more work to do.
Okay, great. Thanks for the call.
Our next question comes from P.J. Juvekar from Citi. Please go ahead with your question.
Yes, thank you. Michael, I think you mentioned that you have reduced your TiO2 requirement by 1%. Is that correct? If it's true, is that permanent? Just tell us, how did you achieve that, and how much savings can you get from that?
Right. Yeah. The first question is, it is permanent, and it is how you formulate the paint. Unless you're a paint chemist, I'm not sure you'd fully understand the way we're doing it. It is the spacing of the TiO2 within the formulation. If you want more chemistry lesson, I'll get you in here with our chief technology officer. The bottom line is, it is permanent, and this is something that we're working on. We have a number of suppliers that supply us other raw material ingredients that are dedicated to helping us work on the TiO2 spacing. You have the hiding as well, they're also working on the hiding. These are all things that the team is working actively on.
That's good. Yeah, I would like to talk to your scientists to understand that better. Secondly, one of your competitors started TiO2 pass-throughs. Have you thought about doing either pass-throughs of TiO2 or any other raw material which would reduce volatility in your business and maybe allow you to focus more on innovation?
Yeah. I guess, P.J., we have not seen that initiative. Any of these single raw material initiatives have not really been successful. What's more successful is if you tie a basket where all the basket goes up or all the basket goes down, and the netting of that basket. We have a number of different pricing mechanisms with our customers, and they're all unique to the marketplace, so that we try to work collaboratively with our customers to get the price. Some customers want it in fashion A, and some want it in fashion B, and some want it in C and D. We try to be unique with our customers, but this single thing of a single TiO2 doesn't typically work. Whereas a freight surcharge might be something that might be beneficial, but that's generally not the way we do it.
Okay. I just have a clarification question on your comment earlier. You mentioned that you expect uneven growth in China. Is that more of a slowdown in China? Have you seen that so far, or is that an expectation? Thank you.
No, we have not seen it. It's all going to be the tariff related. Right now through the first, whatever it is, 18 days, the sales reports that I've seen for China, they're having July very similar to the second quarter. We're just on the lookout for that.
Okay. Thank you.
Thanks, P.J.
Our next question comes from Vincent Andrews from Morgan Stanley. Please go ahead with your question.
Thanks. Just two quick ones. Could you help quantify the extra shipping day from a volume perspective? How much did that help in the quarter?
Yeah, Vincent, this is John. It was mostly related to Mexico and the U.S., and so it was specific to those businesses and probably total revenue, 50 basis points or less.
Okay. Just as a clarifying question, I think the comment earlier was that you expect TiO2 to moderate in the second half. I just want to make sure, are you saying that the pace of the increase is going to be less year-over-year, or you're actually expecting the price to go down? Thanks.
I would say it should be very moderate increases, if at all.
Okay. Thanks very much.
Thanks, Vincent.
Our next question comes from Laurence Alexander from Jefferies. Please go ahead with your question.
Hello. One quick clarification, then one larger picture question. Can you just clarify when you commented on the sequential trends will reflect normal seasonality, is that remark about the segment trends intended to be before or after the Lowe's adjustment that you then break out? Secondly, a bigger picture question about the balance between pricing and productivity, and innovation as ways to offset the raw material pressure. Are there other opportunities to do a similar kind of blitz as what you've done on TiO2 on some of the other raw materials that you use to sort of materially change your input? Can we expect the same split between productivity and price as a way to get margin back to be sustainable over time, or is it going to get tougher to keep finding new sources of restructuring opportunities?
Laurence, I'll answer the first one, and Mike will take the second one. The numbers we gave you with respect to the customer assortment change and seasonality, you should take the seasonality effect first, and then take the math on the customer assortment change after that.
Yeah. Just to make sure you're clear on that, the second quarter, you have the big boxes building inventory in advance of paint season. Now they had their inventory, they're going to work through their inventory to see how the year goes, they're ordering less as the quarter goes on. In regards to the formulations, every one of our scientists that's working on formulations are encouraged to look at the total cost of the formulation. Whether that's optimizing the TiO2, the solvent blend, the resin, or how do they get more solids in a coating versus the alternative, all those things, packaging, how can they deliver more active ingredient in a package versus less? There's multiple different ways to look at it, and we don't mandate only TiO2. We're looking at the total cost of the formulation.
Laurence, just to your question on overall innovation, I think it dovetails. We have formulators who do this. That's cannibalization of an existing product. We prefer to be in a certainly much more amiable raw material environment, and we could shift their resources to creating new to world type products. This is cannibalizing from our ability to spend as much R&D as we would on innovation. We also have process innovation teams who try to allow us to produce this in a more efficient manner. From a manufacturing perspective, they work on that as well.
Thank you.
Our next question comes from Arun Viswanathan from RBC Capital Markets. Please go ahead with your question.
Great. Thanks. Good afternoon. Quick question on volume. What would you say are the buckets that give you the most concern, as to why you wouldn't keep this 3% plus clip going? Would it be Europe? Asia or Latin America, or maybe by business line, any areas that you're specifically worried about?
Well, the first one is retail. Europe would be the highest one. The next one would be Brexit. The next one would probably be, I would say the uncertainty around China. We're not seeing that yet, so it's probably a guesstimate at this point in time. When I look at the other businesses, PMC is at a cyclical low. That's probably not going to get anything but better from this point on. Aerospace continues to perform well. Refinish continues to perform well. Surprisingly, the OEM automotive had a good first half of the year, slightly better than expectations, and we see no reason why the second half won't continue. The only negative there, of course, is whether or not people were trying to buy ahead of the tariffs, right? We won't know that just yet.
We still see more transitions to our packaging of Innovel products, so there's still more gains to be had there. Our industrial business continues to perform well. I guess the main ones are China, retail, and Brexit.
Great. That's helpful. Just had a question on price versus raws. If we look back, this industry has done a pretty good job of recapturing raw material inflation and sometimes even pricing over raws. It looks like now there was maybe an exacerbated lag maybe due to the M&A activity last year. Is there anything else that has changed structurally as to why it's either taking longer for you guys to achieve price or to offset inflation? Is it that the volume picture is just weaker, that your customers are pushing back more? Any thoughts on if there's been any larger scale changes here?
There's been no industry change. Clearly, there's probably more people focused on cash right now. Because of that, they're making certain decisions. For us, we're going to be in this business for a long time. We're prioritizing the margin recovery. I don't think there's been any change, though.
Lastly, on M&A, you discussed that there was likely to be activity this year. Is there any heightened kind of aggressiveness on your part to be involved in that? Private equity folks, are they dropping their return requirements and valuations? What would it take for us to see some more deals from you guys this year?
The private equity is really not a factor in this space. They can't match the synergies that the strategics can bring to the table. We do get outbid at times. That's a fact of life. We're going to remain disciplined. We do know what's in our pipeline. We are certainly actively engaged with a number of people. The biggest challenge is what I talked about on the first quarter, where the bid and the ask had widened because of raw material inflation. They're not getting their margins back. They want to get paid on, let's call it, their best 12 months in the last 36, as opposed to the we want to pay on the current performance. That's what the bid and the ask differential is.
Right. Okay. Thanks a lot.
Our next question comes from James Sheehan from SunTrust Robinson Humphrey. Please go with your question.
Thank you. On your auto OEM performance, looks like in most regions, you were performing at or above the market. But in Asia Pacific, you're below the market, and I'm not used to seeing that. Can you provide some more color on Asia Pacific auto OEM?
Yes, there's two primary factors that drove that. One is we still have in our numbers Australia where there was still an operating plant a year ago. The other one is our share in Korea. As you know, the Korean business is significantly impacted. That's it. If we drew our box around India and China, we're doing very well, and I have absolutely no concerns. It's really those two factors that are driving that.
Thank you. On the accounting investigation, you wrapped up your own probe. I think there's also an SEC probe. Can you talk about the expected timing of that investigation?
We have absolutely no idea what the SEC timing will be. We won't be able to share anything with it until it was finalized anyway. We'll be totally transparent whenever we can be. Right now, we have no insight into what they're thinking.
Thank you.
Thank you.
Thanks, James. At this time, and showing no additional questions, I'd like to turn the conference call back over to management for any closing remarks.
Thanks, Jamie. I'd like to thank everyone for your time and interest in PPG. If you have any further questions, please contact investor relations. This concludes our second quarter earnings call.
Ladies and gentlemen, the conference has now concluded. We do thank you for attending today's presentation. You may now disconnect your lines.