Good afternoon, welcome to the PPG Industries first 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 let know 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. 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. We appreciate your continued interest in PPG and welcome you to our first quarter 2018 financial results conference call. Joining me on the 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, April 19, 2018. I will remind everyone that we have posted detailed commentary and accompanying 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 risk, 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. Today, we reported first quarter 2018 financial results. For the first quarter, our net sales were approximately $3.8 billion. Our adjusted earnings per diluted share from continuing operations were $1.39. This represents an EPS growth rate of nearly 4% for the quarter. The earnings growth we achieved was despite continuing and elevated raw material inflation during the quarter, which we partially countered with selling price improvements and strong cost management. In addition, we continue to benefit from our ongoing cash deployment focus on earnings accretion. For the first quarter, our reported net sales were up almost 9%, while our sales in local currencies increased about 3%. Supporting the higher local currency sales were increased selling prices of nearly 2%, marking the fourth straight quarter of improvement over the prior sequential quarter.
Total sales volume increased modestly but were negatively impacted by fewer shipping days in the first quarter 2017. Lower European architectural coatings volumes due to harsh winter weather that caused several days of store closures during the quarter, and lower U.S. architectural DIY coating sales volumes. In addition, we passed on some business this quarter as we pursued higher selling prices and have prioritized margin recovery. Foreign currency translation was favorable as several key currencies strengthened against the dollar, with sales favorably impacted by approximately $200 million and pre-tax income favorably impacted by about $25 million. We expect a slightly less favorable impact in the second quarter. Looking at some of the business trends in the first quarter, our industrial coatings segment delivered solid organic sales growth of about 2%, which included a 200 basis point improvement in selling price from the previous quarter.
Organic sales volumes and packaging coatings were up mid-single digit percentage as the adoption of our Innovel interior can coatings products continued and selling price increases were achieved. We also continue to grow sales volume in general industrial and specialty coatings and materials, delivering our ninth consecutive quarter of above-market growth rates, driven by strong sales growth in the Europe and Latin American regions. In addition, the general industrial selling prices gained notable traction in the quarter. Automotive OEM coatings sales volumes were flat, consistent with the global industry automotive builds. We continue to outperform the market in Latin America due to new business we received in prior years. In China, our sales volumes were modestly lower and in line with the overall industry, which was expected following the December expiration of the tax subsidy that was previously available in the country.
We anticipate China automotive builds growth, both for the industry and PPG, to improve in the second quarter. In the performance coatings segment, aerospace coatings had high single-digit percentage volume growth led by above-industry performance in the U.S. and Asia Pacific regions. Automotive refinish grew organic sales by mid-single digit percentage, supported by above-market performance in Europe. Architectural EMEA sales volumes were down in the quarter, as I mentioned, impacted by fewer shipping days and harsh winter weather. This business has progressive selling price initiatives working to counter raw material inflation during the quarter. Sales grew a solid mid-single digit in Latin America with contributions from our Mexican PPG Comex business, Brazil, and Central America. During the quarter, we opened an additional 45 stores in Mexico and Central America.
Sales volumes in Architectural Coatings Americas and Asia Pacific were flat as sales organic growth in the U.S. and Canada company-owned stores were offset by lower DIY and independent dealer network sales volumes. Our company-owned stores delivered their strongest quarterly growth in over four years on an adjusted day basis. Our PPG TIMELESS products continue to be added to more The Home Depot stores and had good end consumer pull through the quarter. Protective and marine coatings sales volumes were flat compared to last year with solid protective coating sales driven by Asia, offset by moderating weakness in our aggregate marine coatings sales volumes. Ship building orders in Asia continue to increase, boosting the prospects of a recovery in the marine coatings in early 2019. This will begin to aid paint sales volumes later this year.
From a regional perspective, sales volumes growth was the highest in Latin America, driven by our market outperformance in the industrial coatings segment and strong architectural coatings sales volume. Sales volumes were slightly lower year-over-year in Europe. A solid mid-single-digit percentage increase in the industrial coatings segment was offset by lower sales in the architectural coatings EMEA segment. We anticipate that the industrial business will continue to deliver growth in the second quarter as regional industrial production continues to remain favorable for a broader, continued economic recovery. Sales volumes were flat in the U.S. and Canada in the first quarter. Strong sales volumes in our aerospace coatings business and solid organic sales growth in automotive refinish, general industrial, and packaging coatings were offset by lower automotive OEM sales volumes, including the decline in regional industry automotive production.
Sales in the Asia Pacific region were flat with prior year as we experienced softer demand in China as our customers had a longer shutdown after the Chinese New Year. We expect stronger sales in China during the second quarter, led by higher automotive OEM demand. Sales volumes in India grew by low-teen digit percentage with broad-based contributions across many businesses. From an earnings perspective, our first quarter adjusted earnings per diluted share of $1.39 was more than 4% improvement versus the prior year. Our earnings were impacted by elevated raw material inflation in the first quarter that, while impacting most of our businesses, had a heightened impact on the business in our industrial coatings segment. In the first part of the quarter, epoxy resins, which is a key input for automotive OEM and packaging coatings, increased by more than 40% due to production curtailments in China.
In addition, elevated oil prices impacted solvent-based raw materials and logistics costs. In aggregate, raw material inflation was about a mid-single-digit percentage increase in the quarter, which is on top of raw material inflation we incurred in the first quarter of 2017. We expect raw material inflation to continue in the second quarter of 2018, expect increases to current inflation levels to moderate. During the first quarter, selling price initiatives gained momentum with our most significant sequential improvement since the current cycle of raw material inflation started a year ago. Noteworthy are the gains realized in our industrial coatings segment, which achieved 200 basis points of sequential improvement. We are continuing to work with our customers on further selling price initiatives focused on offsetting this persistent raw material inflation.
In addition, we are making more progress in our efforts on raw material efficiency, with more expected as we progress through the year. In addition to selling price initiatives, we are partially mitigating raw material inflation through continuing cost management. We reduced selling general administrative costs by about 140 basis points compared to last year, including good progress from our business restructuring actions. We have raised our target of restructuring savings now to between $50 million and $55 million in 2018 from our prior guidance. In addition, earnings per share benefited from our ongoing cash deployment actions. This includes the impact of our repurchase of $600 million of PPG stock in the first quarter. In the quarter, average diluted shares outstanding were 3% lower versus the first quarter of 2017.
Our effective tax rate was 23.5% in the first quarter, which is lower than the 24.9% rate from the first quarter of 2017. The reduction mostly relates to the tax reform legislation that was implemented at the start of 2018. We are still anticipating a full year tax rate between 23% and 24%. As we look ahead, we still expect continued positive momentum in overall global economic growth. We are closely monitoring and evaluating the possibility and ramifications of new tariffs. Currently, we do not see a significant direct impact to our company, but any disturbance to free trade would be concerning. Specific to our business, we still expect better growth in housing starts in the U.S. during 2018. We believe the U.S. regional automotive industry builds will be relatively flat year-over-year. In Latin America, we anticipate continued economic expansion in South America, in particular for Brazil.
Growth rates in Asia are expected to remain generally consistent with 2017, with continued industrial production growth in China. We expect stronger automotive build growth rates in the second quarter based on lower inventory levels and easier prior year comparisons. We expect economic expansion to continue in India after a strong first quarter. Economic growth in Europe is expected to continue but remain varied by sub-region and country. Favorable end-use market trends are expected to continue, particularly in automotive OEM coatings, as industry build growth rates are expected to remain positive. We will continue to manage all elements of our business within our control to ensure that we remain competitive regardless of economic conditions. We will continue to execute on our 2016 restructuring program focused on reducing our overall cost structure.
As we announced this morning, we'll be launching our highly rated Olympic stain products in The Home Depot during the second quarter. Olympic has been America's most trusted stain brand since 1938. We are very excited to expand our relationship with the leading do it for yourself retailer in the world. We will work closely with The Home Depot to optimize its success. As mentioned in our earnings press release, based on the change in customer assortment that we experienced in the first quarter, we are further evaluating our cost structure and will be diligent to and execute on any opportunities to reduce costs, which is what you expect from PPG. While we do this, we will not forego our efforts and investments to continue our growth initiatives, including targeting certain growth spending in the second quarter with plans to spend an additional $5 million.
Finally, we remain in a position of strength as we ended the first quarter with over $1.4 billion in cash and short-term investments, which provides 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. Our acquisition pipeline remains active. We plan to continue to repurchase shares in the second 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. 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 questions, you may press star and two. Once again, that is star and then one to ask a question. Our first question today comes from Ghansham Panjabi from R.W. Baird. Please go ahead with your question.
Hey, guys. Good afternoon. I guess first question on North American Paint Stores and the mid-single-digit increase during the first quarter. How does that parse out between volumes and price? Just given the ongoing weakness in independent dealer channel and the share shift in the home improvement channel, how are you thinking about your store footprint, I guess, more broadly in terms of incremental investments there?
Well, we had nice volume and we had positive price, is the way I would describe that. We opened seven new stores in the first quarter, that was despite, as you know, weather in the north continued to be exceptionally challenging as we closed the month of March. I was quite pleased with our store performance.
Okay, I guess, second question as it relates to your comments on raw materials. I think you said mid-single-digit increase in the first quarter and some level of moderation as the year unfolds. Crude oil prices are up quite a bit. The curtailments in China have been in place. I guess, what's giving you confidence that you will start to see that moderation as the year unfolds on the cost side? Thanks so much.
We still anticipate mid-single-digit increases. We will have increases in the second quarter and continuing. I think what we see, first of all, certainly oil is up significantly year-over-year, that's not going to change. Propylene is up in all the three regions, and that's up sequentially as well. Ethylene is the one thing that is down. I guess I'm trying to put it in perspective that Q4 was a very large number, Q1 was a very large number, and we're going to continue to see significant numbers, but maybe not to the exact same significant increase that we saw in Q4 and Q1.
Got it. Thanks so much.
Our next question comes from Christopher Parkinson from Credit Suisse. Please go ahead with your question.
Great. Thank you. When we think about the industrial coatings segment, specifically volumes, can you just take us a quick walkthrough through your comments on general industrial packaging versus your expectation for auto, not in the first quarter, but how you see 2018 evolving and into 2019? Then also, just what's the best way for all of us to think about your ability to achieve price in the segment, once again, by end market versus last year? Thank you.
Let's start with price, because I think that's a really positive story. We had price in every single of our businesses without exception. We also see price coming in the second quarter as well in every single one of our businesses. The traction has improved significantly. As we have said, we're prioritizing price over volume, and that message is clearly received by the entire team in PPG. When you break it down into the various sub-segments of industrial, I'll take the industrial coatings first. Heavy-duty equipment continues to perform well. Electronic materials is a positive. Coil is a positive. Transportation is a positive. Our coating services business, because of all the wins they had in Mexico, they're doing well. The one area negative, of course, is wood.
China is shifting from people painting in the houses to painting in factories, and that has a change in where it's happening in the marketplace as far as the channel that the product's being sold. That's the one negative. When you look at packaging, that's been a continued success story for us. Our new Innovel technology has been positively received, and we're really pleased about that. OEM coatings, again, you have to break that down into regions. The U.S., we went into the year thinking the U.S. volumes would be slightly down. As you saw, March SAAR was very strong, about 17.5 million. The one caveat would be Europe. Even though we see Europe being up, registrations in Europe were modestly down. Year to date, they're flat, but we still are very optimistic. We think it'll be up probably 3% in Europe.
Latin America will be strong, as you know, plus our share gain in Mexico. I was pleased when I looked at China for March. Inventories are in very good shape there. Dealer inventory and the lots are in good shape. The OEM inventories are in good shape. March sales were actually up 3%. I think that's going to be good. Of course, India had an outstanding month.
If I could add, Chris, the expectations in China for the first quarter were modest. As Michael mentioned in the prepared remarks, we were coming off a tax incentive that we believe pulled some business into 2017. We were, again, pleased with March stepping up after, again, a brief pause.
That's helpful. Can you also do a quick walkthrough of your EMEA architectural business, specifically a walkthrough in Europe? I'm assuming France is still weak. What about the Benelux, U.K., and Central Eastern Europe on a sequential basis? Just any comments on growth in the competitive landscape would be helpful. Thank you.
Yeah. The Benelux did pretty well. You've got to remember, Benelux is a market that has a lot of exterior painting. The fact that we had such tough weather in March is part of what dragged that down. When you look at the underlying backlog of our customers, it's still quite good. Retail Europe is by far the biggest concern. Retail Europe is down high single digits. I'm sure you've seen some of the reports from some of the folks in that space. We did get a little cautious on the U.K. We saw some early signs of Brexit. It's hard to parse out the Brexit versus the fact that they had snow in England, which never happens. I think that's part of our concern. When you look at some of the Eastern European countries, doing pretty, what I'd say, hanging in there.
They were more impacted by weather than anybody else. When you come back to France as a country, our trade business did very well, actually, in the first quarter. It was offset by the weakness in retail. No recovery yet for France as a country. We are in pretty good shape as far as the business.
Thank you.
Our next question comes from John McNulty from BMO Capital Markets. Please go ahead with your question.
Great. Thanks for taking my question. With regard to the volumes, you had indicated there was some pressure around pricing where you were walking away when they weren't taking the pricing. I guess could you articulate how much of the volume impact that was in the quarter?
John, this is Vince. In several of our businesses, we saw marginal volume that we thought we've had booked or had booked that with a lower price, went to somebody else. It's not quantifiable, but we definitely anecdotally and qualitatively saw that happen in several of our businesses.
Got it. Just as a follow-up, your corporate and legacy line, I think their original guide had been for $220-$240 of an expense this year, I guess you've revised it to a $175-$190. I guess, what are the major takeaways on that it's getting it as low as it is? I know you had been working on cost-cutting all along, so I would imagine that was partially in the original guide. I guess, what's the big change there?
The two biggest things that have lowered that number since we provided guidance, number one, we did receive revised actuarial information from our pension plan. I think as you know, John, we've done a lot of work over the past three or four years to help immunize our pension plan. Those actuarial information, which we do receive periodically, but we received it after our original guidance, was a big factor. Also, we made some structural changes to our retiree healthcare OPEB programs that are rolling through. That's a pay-as-you-go process.
Great. Thanks very much for the color.
Thank you.
Our next question comes from John Roberts from UBS. Please go ahead with your question.
Thank you. Could you talk about the range of price increases that you achieved sequentially? I'm guessing packaging coatings was up the most given the epoxy situation, and perhaps the increases were minimal in weaker areas like European deco or U.S. DIY.
Yeah, John, we typically don't get into details by business. We did provide in the prepared materials, the information by segment, which is our traditional reporting protocol. I'd ask you to just refer to that.
I thought last quarter was a record quarterly repurchase rate for the company, and now this quarter is 50% higher. How do we think about the pace of buyback as you complete the cash deployment targets?
Well, I think as we've said many times in the past, we don't provide our pace or type of cash deployment from quarter to quarter. We use a multitude of factors to determine what we're going to do with our cash. Those include our acquisition pipeline. We still are committed to the $2.4 billion for this year on both acquisitions and share repurchases, and we'll honor that, but we won't give the guidance by quarter or type.
Okay, thank you.
Our next question comes from PJ Tuccarato from Citi. Please go ahead with your question.
Hey, guys. It's Dan Jester on for PJ. If I look at the heat map in your slide deck, it seems like there's a couple more end markets which you logged below market growth in this quarter, packaging in Asia Pacific and a couple of businesses in EMEA. Is that related to some of the business that you walked away from because of margins? Or is there something else going on with markets that we should be aware of?
No, you hit the nail right on the head. As you can imagine, epoxy prices were up significantly, and we were raising price, and we wanted to get value for the market-leading technology we provide. If we didn't get it, we were aggressive in saying, then see if you can find your coatings needs from somewhere else.
Okay. Logistics cost is something that's come up a bit, not just for yourself, but for other players in the industry. I'm wondering, is there anything that you can do with regards to your own production plan to help optimize or limit your logistics costs? Is that just another line item that eventually you need to pass along to customers and get them to pay for? Thank you.
Well, we are always looking at our manufacturing footprint. That's a constant item. We are looking how we can continue to optimize that. As you know, especially here in the U.S., and it's not just a U.S. problem, there is less trucking availability, and availability of trucks on a short notice is also challenged. If you need something short, you need to pay more or you don't get it. That's a challenge for us. As you know, that's not nearly as big a problem as what we have with epoxies, emulsions, TiO2, and some others.
We are working with our customers on both of these categories with respect to selling price.
Great. Thank you very much.
Our next question comes from Kevin McCarthy from VRP. Please go ahead with your question.
Yes, good afternoon. Thank you. Would you comment on the timing of the rollout of Olympic Stain across the 2,000 stores at Home Depot and perhaps characterize the size of that win as you work to backfill the foregone sales at Lowe's?
Yes. Kevin, I think it's up to Home Depot to tell you when it gets in their stores. What we did put in the release is that we are shipping, and it will be a second quarter event. That's a real positive. The other thing is, how quickly they responded. Within two days of the announcement from the other big box retailer, we were in Atlanta mapping out plans jointly. That was a brand that they valued for a long time, and jointly, we're going to work very hard to make this a success. I think the way to think about the overall sales dollars, though, is if you think about any big box, paint is always bigger than stain, and Home Depot is always bigger than Lowe's. I'll let you kind of do that.
Now, what you have to remember is, there was product already in Home Depot, and they'll have to work their way through that product and work their way into ours. There is some of that timing issue that you'll have to factor in. Our sales in 2019 will be significantly bigger than 2018.
Okay. Thank you for that. As a second question, I wanted to come back to your price contributions. You've seen some nice acceleration there over the last couple of quarters. Michael, as you look at the balance of the year, do you think you can sustain this level of price contribution for the overall company, accelerate from here? Does it tail off at some point because you get to harder comps? How should we think about the cadence of those contributions this year?
The traction is getting better, and we will have more to come. You have to remember, we typically like to be six to nine months behind the raw materials. We're a little bit later than that now, we have more to catch up. We're still, even with the nice traction, we still have to do a better job in this area. You can expect to hear us-
To talk more about price gains in the next quarter as well.
Kevin, you're right. Back half of the year of 2017, we did see some modest price traction. That'll impact the year-over-year numbers. On an absolute basis, we're continuing to pursue higher pricing.
Thank you very much.
Thank you.
Our next question comes from Frank Mitsch from Wells Fargo Securities. Please go ahead with your question.
Hey, good afternoon, gentlemen. Let me ask Kevin's question a different way. Where do we stand right now, second quarter to date, in terms of price increases that you've been able to achieve relative to Q1?
Frank, our expectation is that's going to be higher year-over-year than we saw in Q1. Again, we saw in Q1 a 1.6% selling price increase. Again, every one of our businesses, we think we'll be tracking higher in Q2. We're not going to quantify that. Again, it should be higher than we saw in Q1 on a year-over-year basis.
All right, terrific. That's helpful. I did notice your net debt to EBITDA went up to 1.5x at the end of Q1. Where's your comfort level? Where should we be thinking about your targeted leverage ratios?
Yeah, Frank, Vince again. Yeah, we did borrow approximately $1 billion in Q1. We liked the interest rate at the time when we borrowed that. All in, it was about a 3.6% interest rate. We certainly have a lot of financial flexibility and a lot of balance sheet capacity. As an industry and as a company, the coatings industry can support a much higher leverage ratio than we have today. We're not going to put a quantification on that, but if we find opportunities, we will certainly exercise the balance sheet within reason, and our only biggest criteria would be to remain investment grade.
Thank you so much.
Our next question comes from David Begleiter from Deutsche Bank. Please go ahead with your question.
Thank you. Michael and Vince, when will selling price increases fully catch up to these higher raw material costs? Which quarter? Is it Q2? Is it Q3?
I think the back half of the year, David, is probably the most likely scenario. As you know, this is not a perfect science. Every day, every sales rep in the world for PPG is talking about price and has their own deliverables on that. I would definitely say the last half of the year is it.
Very good. Michael, just on volume after the soft numbers in Q1 for a variety of reasons, can we get back to, let's say, 2% volume growth in Q2 year-over-year, do you think?
As I told you on the fourth quarter call, the 3%, we don't want to draw a line using one data point. We saw the one less selling day in the first quarter, we were trying to be a little cautious. We obviously did not predict the tough weather. April hasn't started out very well from a weather standpoint in the U.S., that will have some moderation on it. The customers all have strong backlogs. When we talk to our big contracting customers, they really are bullish on the year. I would say that we should be closer to your number than our first quarter number.
Very good. Thank you.
Our next question comes from Bob Koort from Goldman Sachs. Please go ahead with your question.
Good afternoon. This is Chris Evans on for Bob. Just wanted to check in and see if you're seeing in the different product categories that your peers are as committed as PPG has been to pricing. Any specific product categories where maybe you're not seeing the same disappointment that you guys are expressing?
I think the only way to answer that question is our comment where we said that we've walked away from some business. Every company has to make their own independent decisions, PPG has made their decisions, and you probably are better off asking our peers about their own independent decisions.
Great. Maybe just talk a little bit about the product line rearrangement that happened earlier in the year. Maybe just if you could deconstruct maybe what happened there. It seems like that came as a bit of a surprise. I'd be curious to hear opportunities where you might be able to shift those architectural gallons that we haven't seen yet. Maybe lastly, as part of that, do you expect The Home Depot new product launch to be EPS positive in this year? Is there any additional costs associated with that?
Yeah, Chris, Vince. I'll try to take at least the first part of that question. With respect to the customer assortment change, I'd simply classify that as the customer made a decision that we certainly were disappointed with, it's certainly any customer's decision to select our product or somebody else's product. If you need any more information, you certainly would need to inquire with that customer. I think your last question, Michael's going to answer the middle one. I think your last question on Home Depot is, certainly our intention is for that to be accretive in Q2 and in succeeding quarters. As you know, Q4 is a light quarter, especially for stain. That one, we'll have to see what the customer pull-through is. As we will in Q2 and Q3.
Given the volumes we expect hopefully to achieve in Q2 and Q3, we'd expect that to be accretive.
I think as far as the volume, I think I covered that earlier. The Home Depot is 100% behind this, and you'll see when they start to put in the store, the type of assortment and type of highlighting of the product. Again, that's really for them to comment on.
Thanks, guys.
Our next question comes from Jeff Zekauskas from JPMorgan. Please go ahead with your question.
Thanks very much. There was a $15 million other income net benefit in the quarter. Where was that?
Jeff, we had about a $7 million charge last year for one of our legacy items for a plant we no longer operate and haven't operated for quite some time. We had an equity investment that started in Q2 of last year, may have been early Q3, that had equity income. Those two items combined comprise the delta.
Okay. Second, you've been trying to raise prices in the industrial area for roughly a year. You're now up 1%, and you have rising raw material costs. They're rising much faster than 1%. Can you diagnose what happened in industrial coatings that's really led to this slowness in successful price realization?
Jeff, I think that really boils down to several factors. The first one is, people have got to see that it's sustainable raw materials. Maybe last year they weren't thinking that it was quite as sustainable, that may have affected how some people are thinking about that. The second thing I would say is we had some of our peers who had publicly stated they were going after volume, that naturally impacts the ability to get price. The third, our industrial customers are very large and very sophisticated, and it historically works this way every time we get to price in industrial, after we get price in the performance coatings segment. The good news is we're starting to get it in every business. That includes automotive, and that also includes the very large OEM industrial customers as well.
I'm disappointed it's taken this long, the pace at which it's coming is apparent, the teams are doing a much better job.
Thanks very much.
Thank you, Jeff.
Our next question comes from Dmitry Silversteyn from Longbow Research. Please go ahead with your question.
Good afternoon. Thank you for taking my question. Just revisiting the European situation, particularly with respect to paint. If you sort of exclude the impact of weather, and obviously it's been a big problem for the region in the first quarter, how would you sort of characterize the overall market fundamentals with respect to construction spending, remodeling activity, anything going on there that the weather elements have hit in the first quarter that should become more apparent as we get into the meat of the painting season?
Hey, Dmitry, Vince. I think you classified it properly. Our visibility on a lot of that's fairly opaque given the weather situations. I think the one trend Michael called out, which was visible throughout the quarter, was the lower retail sales and especially in the home centers throughout the region. That's the one item we can say we have some comfort is a trend. We also did see just some generally lower in the U.K., not paint specific, we saw some generally lower retail overall sales, which again, may be the early or middle effects of Brexit. Beyond that, it's really hard to decipher what's going to occur throughout the paint season.
Okay. In terms of the Olympic product that you're getting into The Home Depot, it's good to see that you guys are able to benefit that quickly from a fill-in in the second quarter. One of the businesses that The Home Depot lost, obviously, was interior stains as well. Is there a kind of future announcements possibly coming from you and The Home Depot on that? Do you have a drop-in product, or is that something that you're working on? Can you give us some visibility or perhaps something that we could look forward to?
Well, I can't give any visibility on that. Obviously, The Home Depot is very interested in having competitive products. They were and continue to be the largest seller of interior stain, and they fully expect to be, in the future, the largest seller of interior stain. They've set that objective, and how that plays out in the future, when we have that clarity, we will be happy to share it with you.
Got it. Final question, just on the overall automotive OEM market. It sounds like we're getting a little bit better results out of China and the U.S. Ours, as you mentioned, were perhaps a little bit stronger than expected. Europe is expected to grow. As you look at the business right now for the balance of the year versus how you looked at it at the beginning of the year, would you say that your overall sort of impression of what the industry growth would be has gotten a little bit better, or is it still fairly kind of low to no growth environment?
No, I would say I'm marginally more positive. Whether you're going to be able to pick that up, whether that's going to be material or not, is not known. I would tell you, it's put a nice solid floor on anything that may happen. I would say I'm marginally more positive.
Dmitry, just as Michael mentioned earlier, we're pleased with the inventory positions in the U.S. The industry inventory positions in the U.S. and China coming into what is typically the highest selling season in the U.S.
Got it. Okay. Thank you, Vince. Thank you, Mike.
Thank you.
Our next question comes from Duffy Fischer from Barclays. Please go ahead with your question.
Yes, good morning. First one is, can you just shed a little bit of light on the accounting issue and your comfort level at kind of ring-fencing it at that small $5 million level?
Okay, Duffy. First of all, I'm so thankful that this was brought forward as we are finalizing our earnings report. As you know, at PPG, we hold ourselves to a very high standard of business and professional conduct. Our reputation for being ethical and respectful company is a competitive advantage. We believe it's our responsibility and commitment to ensure the long-term success of our company. That benefits all our stakeholders, whether it's customers, shareholders, employees, suppliers, or neighbors. We take this matter very seriously. We're conducting an investigation concerning these potential violations. The audit committee is comprised of independent directors of the company's board of directors, and they're overseeing it with the assistance of outside counsel. We're not able to predict the timing or the outcome. All I'm saying is that the investigation is ongoing. I'm sorry I can't provide any additional information at this time.
No, fair enough. Okay, thanks. Second one, the Ford City judgment that hit a couple of papers yesterday, is that meaningful? And if it is, what's kind of the timeline of how that will play out?
First of all, the judge said that the other party was not responsible. That's the first thing. That was what the court case is about. Second, we have been working with the Pennsylvania Department of Environmental Protection on this issue for 10+ years. We are in very good shape with them. We have a very good remediation, and we have, I would say, as far as you and as an investor concerned, this will not be a meaningful issue.
Okay, perfect. Thank you, guys.
The other thing I'd say, just our current actions are protective of the human health and environment, just so everybody's clear.
Terrific. Thanks, guys.
Duffy.
Our next question comes from Laurence Alexander from Jefferies. Please go ahead with your question.
Good afternoon. Two quick ones. First, on the general industrial and packaging outlook comments, where you say it's similar to Q1 in terms of the year-over-year volume growth. If Q1 had the tough comparisons in Asia, what is the comparable offset that makes Q2 similar to Q1? Secondly, in terms of productivity, where do you still see areas for significant productivity gains, given how many years you've been pushing staff on that?
Yeah, Laurence, I'll take the first one, and I think Michael will probably take the second one. I think I heard your question was with the hard comp in China in Q1. I think it was actually coming out of Q4, we expected softness because of a buy ahead, as the tax incentive expired. I would say Q2 last year was a traditional quarter. Q4 of 2017 was the one we thought there would be a buy ahead. Again, I would say the comps for Q2 in automotive China would be normal.
Laurence, in regards to your question about cost, as you know, this is a never-ending quest for PPG to get more efficient. We're always looking at our manufacturing footprint. As you know, we have done other acquisitions in the past 12 months, that means that there's other labs that are overlapping, other plants that are overlapping. We'll be working hard to get those things out. I don't think that we're ever going to stop in this area. Plus, I think, we'll be looking at how we reposition our architectural U.S. business with the announcement of the customer assortment change that was detailed earlier in the quarter.
Thank you.
Our next question comes from Vincent Andrews from Morgan Stanley. Please go ahead with your question.
Thanks. Good afternoon. Maybe you could just give us an update on what you're seeing out there in the M&A environment. I know you guys have your eyes on a variety of things over the years. Has anything changed about the conversations with those targets? I'm going to assume, based on the size of your repo in the first quarter, that you're not close on anything material. Just thoughts on where all that sits would be helpful.
Yeah. The biggest challenge we have right now, Vincent, is the fact that when you're trying to buy somebody whose earnings are going down, they want to look backwards to what they were doing 12 months ago. We want to look at either what they're doing today or what they're going to do the next quarter. They want to get paid on what their business used to be. Of course, we're going to be the ones that will be improving it. I would say the conversations right now are a little bit more challenging. We have a very healthy number of people we're talking to. In fact, we had a new one fly in last week.
I would tell you that the pipeline is still there, but as you can see by our Q1 response, we're going to moderate our purchases of shares based as our pipeline, and we've always preferred acquisitions over share repurchases. We're going to continue to look hard at acquisitions, but if we can't do them, then we'll buy back stock.
Okay. Just to follow up on the logistics cost comments from earlier, I might have missed this if you commented on it before, but is trucking part of the issue of what's going on with driver hours and things like that? Is it just fuel expense?
No, it's trucking. A, it's availability, and B, when they don't show up, then sometimes you have to ship LTL to keep your customer going, because we have so many of our customers that run just in time. That ratchets up the cost to serve that customer during that period of time because of lack of availability. You have two factors going on.
Okay. Thank you very much, guys.
Our next question comes from Michael Sison from KeyBank. Please go ahead with your question.
Hey, guys. EPS growth was up in the first quarter, it sounds like your general economic outlook is positive. Pricing is starting to take some place. When you think about EPS growth going forward, does it get better in 2Q, to what degree? Trying to gauge your confidence in generating better EPS growth this year versus last year in total.
Yeah, Mike, as you know, we don't give guidance, a long-standing practice of ours. I'd tell you that the elements to look out for as we go into Q2, we tried to give you some anecdotal information on, which is we're still seeing raw material inflation. We hope to offset a little more of that with price. The volumes in architectural, as Michael Sison mentioned, at least early in April, are more reminiscent of March than they would be of a better weather season. Other than that, emerging region growth looks good. I think we're hoping a higher volume number, as we said earlier, higher price number, but we're still battling with inflation.
Got it. It sounds like that you may still have to walk away from some volume in 2Q to get some of the pricing. Is that the case? What would the impact be on volumes if you do have to continue to do that?
I'll reiterate what Michael said, that our priority is margin recovery. I would say there'd be no more incremental impact than we saw in Q1 in the second quarter as we continue to work with our customers on pricing. I think we'll see the same situation where certain customers will move to a lower price without us.
Great. Thank you.
Thanks, Mike.
Our next question comes from Arun Viswanathan from RBC Capital Markets. Please go ahead with your question.
Great. Thanks. Good afternoon. Just a question, if I could, on that same question asked a little differently. Do you expect to be kind of caught up margins in industrial maybe Q3 or Q4, or are you still going to be lagging year-over-year?
I think it'll be hard to get there in Q4. That's currently our target.
Okay. In the past, I guess you had mentioned that potential inflection point could be improvements in Europe, and that would be maybe the best opportunity for you guys to start growing again. Maybe you can just help us to understand if that's still the case, and any other kind of signposts that we should be looking for as to see an improvement or anticipate an improvement in your businesses.
Well, I think when I walked around the world with some of my commentary, Mexico, even with the challenges with the election, is still going to be a good market for us. We saw Brazil getting better. Latin America is going to continue to grow. You saw the China GDP number was 6.8%, if I remember right. That was a good, solid number. That's a positive. I talked about India being up basically double digits. Another positive, obviously, would be if we could get this weather behind us and look at our industrial businesses as well in Europe. We dropped 35% or 40% of any sales growth in Europe down to the bottom line. I would say that Europe still has a very positive outlook, and we're well-positioned with our customers, and the team is performing well in a difficult environment.
I'll just append to that, Arun, that we did continue to see in Q1, even despite, again, some harsh weather conditions, very solid growth in our industrial segment in Europe. As we said many times in the past, that's typically the segment that leads a region into growth. We still remain optimistic that that's a potential outcome in the near future.
Great. Thanks. Just last one, if I could. Just on the M&A side, understanding that the businesses want to get full value for potentially depressed earnings. Do you think that could change? If not, why not get more aggressive with price on some of these deals? If M&A is the preference, because it would seem that from a long-term perspective, M&A still probably is a higher return on capital use of that than buybacks.
Yeah, you're exactly right, Arun. We will be as aggressive on price as the outcome of the return dictates. We want to be prudent with our acquisitions. We are preferential on them when they have a good return. We're not preferential on them when they don't. Again, I think we're going to be prudent, but I do think you hit the nail on the head with respect to what we're looking at, which is what's the return on the potential acquisition itself, which would certainly be dictated by the purchase price.
Yeah. All right. Thanks.
Our next question comes from Don Carson from SIG. Please go ahead with your question.
Yes. Thank you. A question on architectural. Last year, TiO2 was your raw material that went up the most. This year, it shifted more to the industrial side. A, do you still see TiO2 going up this year as much as your mid-single-digit overall raw material basket increase projection? Two, if you look at TiO2 and emulsions, is there a need for a third price increase in your U.S. company stores to keep margins growing?
Let's take the TiO2 question first. Supply and demand is what drives TiO2 pricing. I would say that clearly when people report all their earnings across Europe and other places, you'll see that demand will be weak, in our opinion. We're going to be fighting for rollover type pricing in TiO2 because we think that's reflective of supply and demand. We'll wait and see exactly how that all turns out because, as you know, we fight to the last day on taking any price increase. As far as emulsions, that's driven by a number of factors, propylene being the biggest one. Sequentially, we see that it's likely to be heading south in this regard, which should lead us to an opportunity to try to get some lower pricing in that regard. It's too early to speak that way, but that's certainly our expectations.
As far as needing more price, I will tell you that we're aggressively capturing price within that segment now, and we haven't gotten everything we want to date. Let me focus on getting that done first.
Vince, a housekeeping follow-up. You mentioned an accounting change on the last call that would hurt gross margins by 50 to 100 basis points. Did that turn out to be the case? Would you expect that to be recurring for the full year?
Yeah, we adapted the new guidelines with respect to revenue recognition. Those numbers are still valid, Don. Again, that's adapting the new GAAP guidelines.
Thank you.
Thank you.
Our next question comes from Steve Byrne from Bank of America. Please go ahead with your question.
Thanks. This is Ian Bennett on for Steve. Do you expect SG&A expense to decline or increase in 2018?
Well, again, our first quarter, we were down 140 basis points in SG&A. We continue to be very active in controlling our costs. As Michael alluded to earlier, we're assessing the situation with the customer assortment loss, and we'll react to that as well. I think our projection would be for that to continue to be lower. I won't give you a specific number, but we're definitely working on productivity initiatives, as Michael alluded to earlier.
Okay. Thanks. Just a follow-up on the gross margin. Did I hear that correctly that gross margins, the expectation is for not positive year-over-year growth until the fourth quarter or 2019?
I think the question that Michael answered was around the industrial segment margins. Those are the ones that would be challenged until certainly the latter part of the year. If you look on the gross margin basis, I think we were off around 300 basis points. Our goal is to get that up closer to neutral as we go into the earlier part of the back half of the year. The performance coatings business, where we were able to achieve pricing earlier, would help prop that up faster than the industrial coatings segment.
Thank you very much.
Thank you.
Our next question comes from Mike Harrison from Seaport Global Securities. Please go ahead with your question.
Hi, good afternoon.
Mike.
You saw really pretty good growth in company-owned stores in North America during the first quarter. Can you give a little bit of color on what's been driving that? Maybe address if company-owned stores become a little greater focus in light of the change that you've seen in the customer base with the big box retailers.
This continued improvement in our company-owned stores is multiple factors. The biggest one, though, is the fact that there are more do-it-for-me people. The baby boomers are aging and therefore, they're asking people to do the work, and then you have a lot of the younger folks who never learned how to do it, they're getting it done for them. That's the biggest trend. The company-owned stores are winning in that space. The second one, of course, is we've done a lot of improvement in our stores. When you think about the rebranding initiatives, the customer initiatives, those have all been a positive. Our ability to deliver a more timely basis, that's been a positive. There's a lot of underlying activities in that regard.
We did open up seven new stores in the Q1, so it will continue to be a focus area for us.
You announced a price increase for auto OEM customers in the Americas in mid-March. I was wondering if you could just give us some color on how those negotiations are progressing with customers and how you are seeing the competitive environment in auto OEM right now.
Well, I've never seen a time where the competitive environment in auto OEM was anything but fierce. You have super sophisticated customers and the benefit is they clearly see the inflation. There's no denying the inflation is there. We've worked ourselves through a number of gates, if you will, with these folks. We are getting traction. What I will tell you is it's been good for us to get additional price increases out there in the marketplace, and we are getting price. You should expect to see more in the future.
Thanks very much.
Thank you.
Our last question today comes from James Sheehan from SunTrust Robinson Humphrey. Please go ahead with your question.
Mike, could you evaluate your efforts to re-accelerate organic growth? How effective have your rebranding and other initiatives been?
Well, the rebranding has been very positive. As you can see, again, this quarter was the best quarter we've had in our stores in more than four years. That's been doing really well. The branding that we've done overall in PPG has helped us in a number of areas. I'm pleased with that. The clarity on which brands and which markets has helped as well. overall, I would say I'm pleased.
On raw materials, you gave some color on several of the different raw materials. Just wondering on epoxy resins in particular, do you think those prices have peaked yet?
Well, I'd like to say the answer is yes. A lot of that will depend upon some of the plants that were forced down in China in Q1. How quickly can they get up and running? Are they able to run the rest of the year, or will China be diligent? I think China will continue to be diligent in their enforcement actions. I think we're going to have a period here where we're in pretty good shape. I think as we move into winter, you'll see China again continue to very aggressively enforce the environmental regulations.
Great. What's your read on the U.S. paint season thus far?
Well, disappointing. I wish I had a magic wand that could get rid of all the snow. Even in Pittsburgh, we've had two snow days this week, and it's April 19th. Our customers' underlying book of business is strong. Every painter I talk to would like to have three more people painting for them. The housing market is good. All the underlying demand is good. They want to be painting. It should be a good year. You could see the stores, even in spite of this weather, did quite well. I would tell you, I'm still optimistic.
Thank you.
Thank you.
Ladies and gentlemen, at this time, that will conclude our question and answer session. I'd like to turn the conference call back over to management for any closing remarks.
Thanks, Jamie. This is John Bruno again. I'd like to thank everyone for their time and interest in PPG. If you have any further questions, please contact us in the investor relations department. This concludes our first 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.