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Executives

Thomas Waters

Matthew J. Espe - Chief Executive Officer, President and Director

Thomas B. Mangas - Chief Financial Officer and Senior Vice President

Analysts

George L. Staphos - BofA Merrill Lynch, Research Division

Robert C. Wetenhall - RBC Capital Markets, LLC, Research Division

Keith B. Hughes - SunTrust Robinson Humphrey, Inc., Research Division

Kenneth R. Zener - KeyBanc Capital Markets Inc., Research Division

Stephen Kim - Barclays Capital, Research Division

Kathryn I. Thompson - Thompson Research Group, LLC.

David S. MacGregor - Longbow Research LLC

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Dennis McGill - Zelman & Associates, LLC

Armstrong World Industries (AWI) Q4 2012 Earnings Call February 19, 2013 1:00 PM ET

Operator

Good day, ladies and gentlemen, and welcome to the Quarter 4 2012 Armstrong World Industries Earnings Conference Call. My name is Patrick, and I will be your coordinator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Mr. Tom Waters, Vice President of Treasury and Investor Relations. Please proceed.

Thomas Waters

Thanks, Patrick. Good afternoon, everybody, and welcome. Please note that members of the media have been invited to listen to this call, and the call is being broadcast live on our website at armstrong.com.

With me today are Matt Espe, our President and CEO; Tom Mangas, our CFO; Frank Ready, the CEO of our worldwide flooring businesses; and Vic Grizzle, CEO of our worldwide ceilings business.

Hopefully, you've seen our press release issued this morning and both the release and the presentation Tom Mangas will reference during this call are posted on our website in the Investor Relations section.

In keeping with SEC requirements, I advise that during this call, we will be making forward-looking statements that involve risks and uncertainties. Actual outcomes may differ materially from those expected or implied. For a more detailed discussion of the risks and uncertainties that may affect Armstrong, please review our SEC filings, including our 2012 10-K, which we anticipate filing next week.

In addition, our discussion of operating performance will include non-GAAP financial measures within the meaning of SEC Regulation G. The reconciliation of these measures with the most directly comparable GAAP measures is included in the press release and in the appendix of the presentation. Both are available on our website.

Finally, forward-looking statements speak only as of the date they are made. We undertake no obligation to update any forward-looking statements beyond what is required by applicable securities laws.

With that, I will turn the call over to Matt.

Matthew J. Espe

Thanks, Tom. I'm pleased today to recap a challenging and exciting year for Armstrong. I'll spend a minute on the fourth quarter and full year results, which were largely in line with our guidance. And then Tom Mangas will provide a comprehensive review of our financial results. I'm also going to review the operating environment we experienced in 2012, highlight our accomplishments and then look forward to the environment and results we expect in 2013.

The fourth quarter of 2012 was characterized by mixed commercial sales in the U.S., with continued weakness in the healthcare and education sectors, which rely on public financing; and modestly favorable performance in the office sector. New residential construction continued its strong recovery, but residential remodel activity, which is the real driver of our residential business, remains constrained. High employment (sic) [unemployment], unsteady consumer confidence, difficult access to credit and a lack of clarity both politically and economically are constraining homeowners. Given these conditions, we believe homeowners are deferring discretionary remodel spending.

Fourth quarter in Europe, especially in the Eurozone, was weak even despite relatively easy year-on-year comparisons. Our ceilings business in Russia experienced a slight sales decline in the fourth quarter, but this is as expected as we completed our transition to a local sales model. I'll talk about that and full year Russian results in just a minute. Both of our Pacific Rim businesses saw year-on-year sales growth despite overall weakness in Australia, our largest market in the region.

Net sales for the fourth quarter were $613 million, in the middle of our guidance range. Compared to the fourth quarter of 2011, sales were down $10 million or 2%. On a comparable foreign exchange basis, sales were down $7 million or 1%. This sales drop can be attributed to our exit from the Patriot wood flooring distribution business that we discussed last quarter. Patriot was in our 2011 base and contributed about $7 million in sales. The foreign exchange impact year-on-year was fairly minimal and driven primarily by the euro. On a total company basis, price gains offset small volume and mix declines in the quarter.

In the flooring business, volume declines in commercial markets in North America and Europe were only partially offset by price gains. Excluding the sale of the Patriot business, Wood Flooring sales were up with strength in independent retail and with homebuilders, which were partially offset by lower sales in the home center channel. The Pacific Rim was up despite weakness in Australia. Global ceiling sales were up slightly as gains in the Americas and the Pacific Rim offset volume declines in Europe.

Adjusted EBITDA for the quarter was $72 million, again in the middle of our guidance range, and up $19 million or 37% from the fourth quarter of 2011. The EBITDA improvement is driven by manufacturing productivity, SG&A savings and our continued ability to achieve price to cover inflation, all of which more than offset lower volumes. A portion of the year-on-year improvement relates to our 2011 lockout at Marietta, which impacted last year's results but didn't occur in the fourth quarter of 2012.

Full year sales of $2,619,000,000 were down $104 million or 4% from 2011. On comparable foreign exchange basis, sales were down $57 million or 2%. Again, the large majority of the FX impact was driven by the euro. All the sales decline was driven by volumes with both businesses driving favorable price and mix versus 2011.

For the full year, we increased adjusted EBITDA by $26 million or 7% from last year despite global volume declines of 3.5%. Our actions to drive manufacturing and SG&A improvements in price over inflation offset more than $40 million of bottom line impact related to market-driven volume declines.

When we entered 2012 and provided guidance, we expected a flat commercial market opportunity in North America, a slight decline in Europe and Australia and robust growth in Asia. On the residential side, we anticipated strength in new construction and modest improvement in repair and remodel activity. In reality, we experienced a slightly negative North American commercial market environment, particularly in education and health care. Europe, especially in the Eurozone, disappointed even versus our low expectations. Asia was a mixed bag as office in China was down in the first half of the year, but recovered in the second half and the education and health care sectors performed well as expected. New residential was the one surprise to the upside as 780,000 new home starts exceeded our outlook, while repair and remodel activity was constrained and below our expectations.

Outside of the global macroeconomic climate, we're largely pleased with 2012. Some of the significant accomplishments Armstrong achieved during the year in chronological order include: transitioning our Marietta ceilings plant safely back to the regular staff levels after the lockout that concluded at the end of 2011; receiving board and government approvals to build and beginning work on the first mineral fiber ceilings plant in Russia; refinancing and raising $250 million of additional debt and paying a special cash dividend of $500 million in March and April, respectively; completing construction of our Millwood, West Virginia mineral wool plant; closing our previously idle Mobile, Alabama ceiling and Statesville, North Carolina engineered wood flooring plants; exiting noncore businesses by divesting our Cabinets business and Patriot's distribution business; opening an Armstrong ceiling distribution center in Russia, thereby allowing customers to buy in Russia and in rubles directly from Armstrong, Russia was a real bright spot for us in 2012 with ceiling sales up over 25%; delivering the last $50 million of our $200 million cost reduction program; building out our 3 plants in China, our homogeneous flooring plant just recently started production and the heterogeneous flooring plant and ceilings plants both start up later this year, as planned; earning $400 million in adjusted EBITDA on sales of $2.6 billion.

This 15.3% margin represents a record for the company since emergence from Chapter 11, the only year since emergence with higher absolute earnings was 2007 when, on a comparable basis, EBITDA was $427 million, but sales were almost $700 million higher that year. And finally, 2012 was a record safety year for Armstrong. Our incident rate of 0.68% was down 30% from an already excellent 2011 performance, and 18 of our global manufacturing facilities worked the entire year without a recordable injury.

As we look ahead to 2013, the headlines suggest that the macroeconomic pieces of recovery are falling into place in the U.S., albeit not always smoothly. But we've seen this before, only to be disappointed as the year unfolds, which tempers our enthusiasm as we think about our market opportunity in 2013.

As we plan our business, we expect new residential construction to continue to be a bright spot and forecast 950,000 new home starts in 2013. However, we remain cautious on residential remodel activity as consumers seem willing to defer purchases of big-ticket items rather than trade down. And despite pent-up demand to freshen aging homes, a trigger to release this demand just isn't obvious to us at this time. Our Wood business should achieve higher sales driven by new home construction, as well as price gains in response to lumber inflation.

As you know, our commercial business tracks GDP closely. So as we look at another year of GDP growth around 2% in the U.S., we anticipate a continuation of flat to slightly down commercial volumes with ongoing weakness in education, and to a lesser extent, health care. Price to cover inflation and mix gains should offset the volume declines. We recognize that McGraw-Hill and others have positive forecasts in commercial construction to date [ph], but we've seen this before only to have the numbers revise downward as the year unfolds. Also remember that as with residential repair and remodel activity, remodel activity's a real driver of our business. And even if these new construction forecasts are correct, our product sales lag starts.

In Europe, we expect GDP to be flat in the Eurozone and only slightly positive in the U.K. This will translate into lower sales for us in those regions. Russia, the Middle East and share-building and pricing initiatives should drive sales gains will more than offset the Eurozone market-driven volume declines.

In Asia, we're optimistic for 2013. I mentioned the softness we experienced in the office segment in China in the first half of 2012, which was quickly followed by a rebound in activity in the back half of the year, and we believe the second half trend will continue into 2013. Coupled with continued growth in health care and education and our plant openings, we anticipate China's sales to be up double digits. We also expect to grow sales in India and Southeast Asia. We expect that Australia will continue to be a drag.

On the cost side, we're looking at higher manufacturing overhead expense as we bring our new plants online, inflation on our raw material inputs and increased SG&A expense as we invest to support emerging markets sales and drive share and mix improvement efforts. We'll continue to focus on driving price to cover inflation and continued productivity gains in our plants, but EBITDA margins will likely contract slightly in this plant start-up year.

2013 will be a transition year as we consolidate the gains of the past few years and position ourselves to benefit from growth in the future. For the year, we anticipate sales in the range of $2.7 billion to $2.8 billion, up from 2012, and EBITDA in the range of $390 million to $420 million, up slightly at the midpoint from 2012.

With that, I'll turn it over to Tom to discuss the financial results and guidance in more detail. Tom?

Thomas B. Mangas

Thanks, Matt. Good afternoon to everyone on the call. In reviewing our fourth quarter and full year results, I'll be referring to the slides available on our website starting with Slide 4, key metrics, as Tom Waters already covered Slide 2, and Slide 3 is simply an explanation regarding our standard basis of presentation.

Matt mentioned quarterly sales and EBIT results. So I will only point out that operating income and EPS were also up versus last year by 62% and 88%, respectively, with fourth quarter EPS benefiting in 2012 from a 40% normalized tax rate versus the 42% used in 2011. Fourth quarter free cash flow was $25 million, down $65 million from the fourth quarter of 2011. I'll address the drivers of EBITDA and free cash flow in more detail on upcoming slides.

We closed the fourth quarter with net debt of $735 million, down from $784 million at the end of the third quarter, but up from $362 million at the end of the fourth quarter of 2011 as we increased leverage to pay our $500 million special cash dividend in April. Finally, our unadjusted return on invested capital, or ROIC, on a continuing operation basis was 9.8%, an increase of 220 basis points over the prior year and up from 1% in 2010. This represents a record since our emergence from Chapter 11, and growing ROIC remains a focus for us.

Slide 5 details the adjustments we made to EBITDA and provides a reconciliation to our reported net income of $9 million in the quarter. As you can see, there are only a few minor adjustments in this past quarter and in the fourth quarter of 2011. In addition, interest expense was higher in 2012 than in 2011 as debt increased by $250 million to finance a portion of the dividend paid in 2000 -- April 2012.

Tax expense was significantly higher versus the prior year, primarily due to a release of foreign tax credit reserves in the fourth quarter of 2011 that did not repeat this past quarter. Our 70% unadjusted tax rate in the fourth quarter of 2012 is primarily -- is driven primarily by relatively large unbenefited foreign losses in the quarter. A high unadjusted effective tax rate is typical for us in the fourth quarter, reflecting the seasonal nature of our business and the small relative profit in the period. I'll discuss taxes on a go-forward basis when I talk about guidance in a minute.

Moving to Slide 6. This provides our sales and adjusted EBITDA by segment for the quarter. Excluding the impact of foreign exchange, Resilient Flooring sales were down 3%, driven by weakness in Europe where volumes dropped double digits and by a soft North American commercial market. Sales in the Pacific Rim were up 9%, led by strong performance in China. Despite the sales decline, adjusted EBITDA for the Resilient segment was a -- was flat as manufacturing and SG&A savings offset lower volumes and start-up costs associated with our China plants.

Wood Flooring sales were down 4% due to the Patriot divestiture included in the third quarter. Excluding Patriot, North America wood volumes were up mid-single digits. Price was a slight positive and mix was a slight negative as the builder channel outperformed retail and the home center channels. Adjusted EBITDA in the wood business was down $1 million year-over-year, primarily due to higher lumber input costs. As a result of this, last month, we announced price increases on our solid wood products of up to 10% effective March 1. This is on top of the 6% price increase we took on both solid and engineered wood products effective December 17.

Building Products sales were up 2% as global price, mix and volumes were all slightly positive. In the Americas, our ceilings business sales were up 3%, led by low single-digit growth in volumes. Growth in our Architectural Specialties business was a key contributor to this. Sales in Europe were down 3% for the quarter, excluding the impact of foreign exchange. Matt mentioned the drop in Russia sales as we saw volume pulled into Q3 as we transitioned to a local service model in Q4, which we outlooked on our call last quarter. This, coupled with market weakness in the Eurozone, led to volume declines that more than offset mix improvements, which were driven by an improved quarter in the U.K., our largest European market. Pacific Rim sales were up despite continued weakness in Australia, which was down high single digits. China and India both experienced solid sales growth.

Adjusted EBITDA in Building Products increased $20 million versus the fourth quarter of 2011 or more than 40% as manufacturing productivity, SG&A savings, greater year-on-year contributions from WAVE as well as price and mix gains all contributed to improved profitability. Some of the productivity gains we enjoyed were due to the higher costs we incurred at our Marietta, Pennsylvania facility during the lockout in 2011.

Separately, we announced a 5% price increase in North America commercial ceilings and 4% for grid effective February. In Europe, we have ceilings and grid price increases of 2.5% to 4.5% depending on product and market that go into effect over the next month as well. The Corporate segment was flat as lower core corporate expenses offset the expected decrease of our noncash pension credit.

Slide 7 shows the building blocks of adjusted EBITDA from the fourth quarter of 2011 to our current results. The story of the quarter was similar to earlier quarters this year as volume declines across our commercially oriented markets offset price and cost improvements. This quarter also benefited from lower input costs, mostly from petroleum-related materials.

Turning now to Slide 8. You can see our free cash flow for the quarter. Cash earnings were higher than prior year, driven by improved operating income. Working capital contributed $47 million to free cash flow in the quarter, but that was down by $17 million versus last year due to our 2011 accounts payable initiative that drove a onetime cash inflow last year. Capital expenditures were higher than in 2011 as we continue to build out our emerging market plants. Interest expense was higher due to the additional debt in support of the April special cash dividend. And most notably, we are anniversarying the $50 million WAVE special cash dividend in 2011.

Slides 9 through 12 illustrate our year-to-date financial results. For the year, sales were down 2.1% on a comparable foreign exchange basis, driven by European macroeconomic issues and softness in commercial markets in the U.S., driving reduced unit volumes. Despite the sales decline, adjusted operating income, adjusted EBITDA and adjusted EPS all improved. Free cash flow was lower primarily due to higher CapEx spending, the 2011 payables program I just mentioned and the nonrecurring WAVE special dividend.

Slide 10 illustrates our sales and adjusted EBITDA by segment for 2012. Resilient Flooring sales were down 4% due to weak European and North American commercial markets. European volumes were down in the mid-teens. Price and mix were both positive in the Resilient segment with mix benefiting from strong sales of luxury vinyl tile products, including residential products such as Alterna and Luxe Planks, which we have discussed with you in the past. Despite lower sales, the Resilient business grew EBITDA by over 30% as SG&A savings, production expense improvements as well as price and mix overcame the volume declines.

Wood sales decline due to the disposition of Patriot and lower sales in the home center channel, as well as due to slightly lower price and mix. Sales to builders and independent channels were strong. Wood profitability dropped, driven by lower price and mix. Mix was negatively impacted by strong new home construction and relatively weak remodel activity.

Building Products sales grew by 1% for the year as global price and mix overcame low single-digit volume declines. Adjusted EBITDA was up $18 million driven by the higher sales, manufacturing productivity and a greater contribution from WAVE. Corporate expenses were higher by $8 million due to a $14 million reduction in our noncash pension credit, partially offsetting -- offset by lower core expenses.

Slide 11 is our full year adjusted EBITDA bridge, and the story is familiar to those of you who have been following Armstrong. Lower commercial market opportunity across our core geographies remained a drag, but we were able to grow EBITDA by improving price and significant cost savings, resulting in $400 million of adjusted EBITDA for the year.

Slide 12 is the year-to-date free cash flow bridge. Improved cash earnings benefited from both higher operating income and lower cash taxes. The working capital change was negative. But as mentioned before, this was driven entirely by our accounts payable initiative that delivered onetime outside gains in 2011. CapEx is, of course, related to our plant construction projects, and interest expense to our March refinancing. WAVE's free cash flow reflects the 2011 special cash dividend.

Slide 13 provides guidance for 2013. As Matt mentioned, we expect sales of $2.7 billion to $2.8 billion, up 5% at the midpoint from 2012 and adjusted EBITDA in the $390 million to $420 million range. Matt provided the market color on how we came to these ranges, so I won't review those factors. But I do want to comment on a few additional details.

As most of you know, we'll be bringing 3 new plants online in China this year and ramping up engineering and construction for our Russia ceiling plant. These 4 plants will add about $15 million of fixed production costs above 2012 while providing relatively little in terms of incremental sales as they ramp production, thus, contributing negatively to margins in 2013. We continue to ramp up SG&A investments in our Architectural Specialties business as well as investments in Asia and other priority emerging markets in advance of the plants coming online, a further drag to 2013 profitability. Also impacting 2013 margins is a further $10 million reduction of our noncash pension credit. This is due mostly to us reflecting the lower market-based discount rate on our pension liabilities, consistent with what we are all seeing across all defined benefit plans. This item impacts both manufacturing and SG&A expense. I wanted to specifically call your attention to these items as they represent $30 million to $35 million of expense in 2013 that we've not guided on in the past.

The final 2013 detail I want to spend a minute on is our tax rate. We were pleased to reflect a lower normalized effective tax rate of 40% versus the prior year's 42% when we initially guided 2012. We, in fact, delivered an unadjusted actual rate of 34.5%, driven by the release of foreign tax credit reserves, domestic production deductions and a better mix of foreign earnings versus 2011. As we look further into the future, we now project and will be using a normalized effective tax rate of 39%. However, that will likely not be our experience in 2013. We anticipate an unadjusted effective tax rate closer to 42% for 2013. This is driven largely by a temporary deterioration in our foreign subsidiary level profitability, mostly related to the plant start-up costs I just mentioned.

Finally, on the guidance key metrics slide, you can see that free cash flow should be in the $75 million to $125 million range, similar or slightly up from 2012.

Slide 14 provides some more detailed assumptions going into our earnings guidance and includes the specifics for the first quarter. We anticipate inflation in the range of $40 million to $50 million with a significant portion of the increase impacting Wood Flooring. Our 2 recent wood price increases -- increase announcements are in direct response to this lumber inflation. We also anticipate raw material inflation in the ceilings business as input costs are increasing across an array of items including perlite, mineral wool, waste paper, starch and others. Once again in 2013, we anticipate offsetting inflation with price releases.

We continue to remain focused on driving continuous productivity in our cost structure. To that end, we have set an internal manufacturing productivity goal of 2.5% annually. This replaces our discrete $200 million cost-out effort from the past 3 years. This 2.5% goal is on a gross basis, which should more than offset our new plant start-up costs and manufacturing and labor inflation. Despite this productivity program, we expect the sheer magnitude of the commodity inflation and the offsetting pricing we must take to result in slightly lower gross margins for the company. Wood will be the hardest hit.

I already mentioned the impact of the further reduction in our noncash pension credit, so I'll skip the item. We expect WAVE's earnings to be flat to slightly up as they experience the same global end markets as our other commercial businesses. Cash taxes will be in the $25 million to $50 million range, up from prior years as we exhaust our Chapter 11 federal NOL and begin to utilize foreign tax credits.

Our estimate for the first quarter projects sales, including anticipated FX impacts, to be in the range of $600 million to $650 million, which, at the midpoint, is basically flat with 2012 when excluding foreign exchange tax and the Patriot divestiture. We expect to learn -- pardon me, we expect to earn $68 million to $83 million of adjusted EBITDA compared to just over $83 million on a comparable basis in 2012. The adjusted EBITDA estimate is impacted by lower commercial volumes and the higher start-up costs I just discussed.

Our capital spending range of $170 million to $190 million reflects the completion of our Chinese facilities, the continued construction in Russia and our typical maintenance improvement CapEx of $90 million to $100 million. Lastly, for the full year 2013, we currently anticipate a few million dollars in EBITDA adjustments associated with crew eliminations in Australia and severance payments for additional redundancies in the European Flooring business as we continue to try to match the cost structure with the market reality.

As you may have noticed in our press release, we are about to go to the capital markets and refinance our current credit agreement. This transaction will not change our level of debt or liquidity. We're looking to borrow $1,025,000,000, essentially equal to our current credit agreement debt. We are simply seeking to lower our interest rate to current market levels, extend maturities to 2018 and 2020 and make a few minor technical improvements to our current credit agreement. We hope to conclude this transaction in March and we'll discuss with you the results when we host our first quarter call in April.

In summary, in 2013, we look forward to consolidating the gains we have made in the past few years and to setting the stage for the growth that we expect in the coming years. We have shared with you in the past our mid-cycle guidance where we believe we can achieve $4 billion in sales and $800 million of EBITDA. We are even more confident of that outcome with our cost-out program fully realized, our emerging market plants about to open, and hopefully, a more robust domestic commercial recovery to follow what has started to become a strong housing recovery.

And with that, I'll now turn it back to Matt.

Matthew J. Espe

Thanks, Tom. I hope that when we host this call next year, we're reflecting back on a 2013 where consumer remodel spending was surprise to the upside, where commercial activity met or exceeded outside estimates and where Europe started to recover. And while the scenario is possible and we certainly have the capacity to meet this opportunity, it's just not one that we see today. While I always hope for better market conditions, with or without them, Armstrong will continue to focus on the factors within our control to drive profitable growth, create shareholder value and position ourselves to win in the markets.

For that, thanks for your question today, and we'd be happy to take any -- thanks for your attention today, and we'd be happy to take any questions.

Question-and-Answer Session

Operator

[Operator Instructions] And your first question comes from the line of George Staphos with Bank of America Merrill Lynch.

George L. Staphos - BofA Merrill Lynch, Research Division

I guess my question is this. You obviously had a very strong fourth quarter when you look at the percentage growth rate. You enumerated a number of factors that sort of talked to why growth will decelerate this year. You had easy comps. You had $30 million of start-up and other expense to contend with this year. The cost reduction program has more or less completed. You have a new productivity program on tap. Is there anything else within the business that is driving this deceleration? Is it purely those factors? Is there any lessening in your ability, as you see it, to create margin or turnover time from your pricing and distribution model?

Matthew J. Espe

Thanks, George. No, really it's the factors we're pointing to. The GDP outlook causes us to be very cautious and somewhat pessimistic about volume opportunities in the commercial market. We continue to be really pleased with new housing starts. That, obviously, contributed to relatively strong Wood Flooring growth. The issue there is that really only represents about 10% of our total revenue. So if you look around the world, we're expecting challenging markets again in the U.S. and Europe. We expect Asia to continue to be robust with the exception of Australia, so that -- we're going to offset that with price and mix. And then we have, as Tom pointed out, $30 million to $35 million worth of expense investments this year that help position our emerging market opportunities and bring the plants out of the ground. We're certainly not -- we're never done with SG&A and manufacturing productivity. But I think we have kind of 1-year plant start-up phenomenon here that we have to consume.

George L. Staphos - BofA Merrill Lynch, Research Division

Matt, if I could, just if you were in our seat, what would you look to in terms of the green shoots of a commercial recovery in the U.S. or -- I'll leave it there, other than seeing it in your numbers in one of these quarters.

Matthew J. Espe

Sure. I think the answer there's a couple things. I think the first thing would be real traction in commercial starts, and of course, traction in commercial remodel activity. That really drives our business. And then sustained positive growth in the Architectural Billing Index.

Thomas B. Mangas

George, this is Tom. Just on your first question, I wanted to come back. I think one difference between '12 and '13 is the inflation environment. As you looked at our bridges, we essentially had no inflation on the year in 2012 and we were able to execute a lot of pricing, particularly in the ABP business. Next year, we're anticipating significant inflation, particularly in Wood, which is typically not our strongest market in terms of ability to take -- hold and win price there. We're being very aggressive there. So I think the difference in '13 to '12 is our ability to achieve price over inflation.

Operator

Your next question comes from the line of Bob Wetenhall with RBC.

Robert C. Wetenhall - RBC Capital Markets, LLC, Research Division

Just wanted to ask are you expecting stronger trends in the second half of 2013 relative to 1H? And I'm just trying to infer this from your guidance for the first quarter.

Matthew J. Espe

Yes, we are slightly improved second half. That generally helps us close the year strong, relatively strong. If we see a meaningful rebound in commercial starts and commercial activity in the second half, of course, Bob, that doesn't roll through for us in revenue for quite a while. I mean, that's stuff we -- that's revenue we'd see in 2014. But we're expecting, at least in North America, a slight improvement in second half versus first half.

Robert C. Wetenhall - RBC Capital Markets, LLC, Research Division

Got it. And you had mentioned $4 billion revenues, $800 million of EBITDA mid-cycle. And I'm just trying to understand in thinking about that number, is that including the foreign emerging market investments you're making?

Thomas B. Mangas

It does.

Matthew J. Espe

Yes. It would include the additional plants coming online in China and Russia. And it also assumes kind of a normalized operating environment with respect to housing starts and commercial starts.

Robert C. Wetenhall - RBC Capital Markets, LLC, Research Division

Any guess on timing on that or...

Matthew J. Espe

Boy, I tell you, if I could do that, well, I'd probably be in a different job.

Operator

Your next question comes from the line of Keith Hughes with SunTrust.

Keith B. Hughes - SunTrust Robinson Humphrey, Inc., Research Division

Just to go back over something you said earlier. You had 3 items that were hurting you coming up in '13, $15 million on fixed production costs, $10 million on lower pension credit. I believe there was a third one. Can you repeat what that was?

Thomas B. Mangas

Yes, it was SG&A-related investments associated with our Architectural Specialties priority investment as well as the emerging market SG&A to support the plants. So expanded sales presence, promotion vehicles, displays, that sort of stuff.

Keith B. Hughes - SunTrust Robinson Humphrey, Inc., Research Division

In China, are you not going to be able to offset some of the production overhead by not having to ship into the country anymore or is that included in that estimate?

Matthew J. Espe

Well, Keith, it'll take a few years to load the China plant. So we'll be incurring the freight expense as we import into China as the plants kind of ramp up this year and next.

Keith B. Hughes - SunTrust Robinson Humphrey, Inc., Research Division

Okay. Then final question. I interpolate between your numbers, looks like there's about $110 million of D&A in '13, is that correct?

Thomas B. Mangas

That sounds about right, Keith.

Keith B. Hughes - SunTrust Robinson Humphrey, Inc., Research Division

I'm looking at the difference between the operating income range in '13 and the EBITDA.

Thomas B. Mangas

Yes, yes.

Keith B. Hughes - SunTrust Robinson Humphrey, Inc., Research Division

Will that come pretty even throughout the year?

Thomas B. Mangas

I'm sorry, Keith. You broke up there.

Keith B. Hughes - SunTrust Robinson Humphrey, Inc., Research Division

Does that come fairly even throughout the year?

Thomas B. Mangas

I think you'd see it build because as we start opening these plants, we'll start the capitalization and the depreciation process, so we're functionally operating the homogeneous plant now. The hetero and the ceilings plant will start coming online in the second quarter, third quarter. So that -- it will ramp through the year, but...

Operator

Your next question comes from the line of Ken Zener with KeyBanc Capital Markets.

Kenneth R. Zener - KeyBanc Capital Markets Inc., Research Division

Could you maybe just taking a step back, if you look at the 3 different segments, I realize this year with plant closings -- or plant openings and costs, there's some different impacts. But generally, could you give us like a real rule of thumb for operating leverage or incremental EBIT that you'd expect for each of your segments?

Thomas B. Mangas

Absolutely. Ken, we -- and we talked about this a bit in our mid-cycle discussion. We believe very strongly that with incremental volume here, and I think that's the key is with new volume on the Building Products segment, we think we can achieve 30% to 40% incremental margins. On the Flooring segments, on Resilient somewhere between 25% and 35% and wood at 25% to 30% incremental margins. So we are excited for the day we start growing volumes. Part of the issue behind our -- and those are EBITDA margins, by the way, where in our guidance, sales growth of 5% at the midpoint, the bulk of that is actually from pricing and mix, not from incremental volume. As you took Matt's outlook and you talked about flat to down commercial markets, flat to slightly up residential remodel markets. So you're not seeing that incrementality on the sales because the sales is not being driven by unit volume. It's by price and mix. But when the volume starts kicking in, we do expect to have a great engine of growth that yields to that $800 million of EBITDA at mid-cycle or effectively a 20% EBITDA margin, up from 15% in the fourth quarter.

Kenneth R. Zener - KeyBanc Capital Markets Inc., Research Division

Okay, good. And then it sounded like in the comments with Building Products, it did sound plants, the plant opening, and you have some price coming in, in February, if you could maybe give us an update or if that's just to offset incremental costs that you're facing. But in Building Products, are you going to have up margins? It sounded like you said down margins. Could you just confirm that? For the year?

Matthew J. Espe

Well, the -- yes, the price increases that we've announced effective in February are related to raw material increases that we continue to see. And our yield on the price increases continues to be at sort of our historical average. And with respect to margins...

Thomas B. Mangas

Yes, we haven't guided at the segment level where we expect margins to go. The margin guidance was purely at the company level, which is reflective of the total company's pressure on commodity as well as plant start-up costs.

Kenneth R. Zener - KeyBanc Capital Markets Inc., Research Division

Sure. And if I could, the wood flooring that you described, the mix impact to new builders. If your -- could you give us a sense of how much lower perhaps the margins are to the new side, which is obviously very helpful for the volume, but -- just so we can think about the impact as 2013 continues to have a lot of new construction impact?

Thomas B. Mangas

Yes, Ken, we're generally not disclosing the magnitude of differentiation. Obviously, the builder market can be very competitive and you're bidding big developments and generally takes a lower-end product than the residential remodel. So we're not giving that level of transparency. But as you can imagine, given the builders are trying to have specific price points, they're selecting product forms and conducting bid processes, that leaves lower margins.

Matthew J. Espe

So just to build on what Tom said, what that means is we've got a mix impact from new construction, not pure price. So we're selling a somewhat lower mix product line. It doesn't necessarily drive margins quite the same way sort of pure price would.

Operator

Your next question comes from the line of Stephen Kim with Barclays.

Stephen Kim - Barclays Capital, Research Division

Two main questions I had. First, with respect to your commentary about the public sector portion or public sector influence portion of commercial, can you break that down for us a little bit – in a little bit greater detail? Maybe quantify, of your commercial exposure, how much would you say is affiliated with the public sector related? I know you called out education. But if you maybe can just be a little more granular on that, that'd be great.

Matthew J. Espe

Well, I mean, it's -- in the 4 major commercial segments, it's almost equally split if you look at the entire company. It's a little differentiated between businesses. Where we see public spending affecting the most obviously is in public schools. And that's a function of state government and municipality budget challenges driving some of that. So that -- we'd see that. To a somewhat lesser degree, we'd experience it in health care. If you think about office construction, what we -- that's not obviously publicly tied to public spending, but we do see some regional differences or range in terms of the activity there. But if you look at the ceilings business and you think about office retail, education, health care, and you could throw other in there, but if you look at that, office is about 30% to 40% of the total business. Retail, and this would be ceilings for stores, not ceilings sold through stores, would be 20% to 30%, education's 15% to 25% and health care's 5% to 15%. If you look at the flooring business, health care again represents about 20% to 30% of the total. Retail, and again this is retail sold into stores for their use, not through stores, 20% to 30%. Education is about the same as ceilings in terms of 15% to 25%. And office in flooring is a smaller part of the mix versus ceilings. Office is about 5% to 15%.

Stephen Kim - Barclays Capital, Research Division

Got it. That's very helpful. Appreciate it. Okay, great. And then secondly, I wanted to ask you about the Wood Flooring business. You've been talking now for little while about the home centers with their challenges. Obviously, they have a significant competitor out there who's been doing a good job on wood flooring. I was curious whether or not you guys had any view on how you can -- addressing things that are in your control? How you can address the ongoing weakness in wood flooring home center sales?

Thomas B. Mangas

Well, we have commented in the past, Stephen, on a particular home center channel that drove a significant variance or deviation from our expectations. That didn't occur this quarter. So we're kind of withholding any specific comments. We're constantly evaluating and reviewing our channels to market and looking for opportunities to expand them. At this point, our -- with respect to wood, the independent channels are doing a phenomenal job for us. They're seeing real growth there as is builder direct. So we think we're holding, arguably gaining a little share there. But Frank and his team are always evaluating and looking at channels that optimizes our customer access.

Stephen Kim - Barclays Capital, Research Division

Sure, okay. Well, let me throw in a last question then. With respect to trends throughout the quarter, in particular, I guess, we're all wondering whether or not there was any incremental signs of improvement as you headed into 2013. I believe it was a couple days ago, you had one company in the commercial market commenting about very strong orders, for example. I was curious whether or not you've seen any incremental improvement in the trajectory of your business, particularly in the commercial side or resi remodel as you enter 2013?

Matthew J. Espe

Yes, I mean, it's always hard to compare one company versus the other, different cycles and things like that. And -- but we didn't see a significant improvement in the fourth quarter in the commercial activity. As we said, the residential new starts continues to be strong. Commercial activity across-the-board continue to be a bit of a challenge in the U.S. Europe softened in the fourth quarter. And Asia had a very strong second half. So nothing beyond what we described for the fourth quarter. And again, given the GDP outlook in North America and continued pressure in the Eurozone, we're not anticipating any help at all for the economy in 2013 and we would love to be surprised on the upside.

Operator

Your next question comes from the line of Kathryn Thompson with Thompson Research Group.

Kathryn I. Thompson - Thompson Research Group, LLC.

On Resilient Flooring, margins improved year-over-year, but still was a touch below our expectations. How much of this was driven by higher cost or at least the net income margins? How much was driven by higher cost versus volumes maybe coming in a little bit lighter? Or any other event that could have explained the little bit softer operating margins for Resilient?

Matthew J. Espe

Sure. Kathryn, nothing meaningful in costs and we're driving price over cost and have through the year. Most of the -- the major driver in the variance is most likely our mix in commercial versus residential. So commercial was down and relative margins are stronger there.

Thomas B. Mangas

Yes. Kathryn, I guess it's all relative to expectations. I mean, worldwide Resilient EBITDA margin in 2012 was 9.3%, up from 6.8% on declining sales. So we felt that was a pretty good margin outcome. And as I look across the different elements, I mean, they all have contributed to offset that lower -- the good news and the bad news is our incremental margins on an EBITDA basis with new volume are growing significantly, and when we lose volume, you've got a lot – a big hole to dig yourself out of. So I think that the business did a great job to significantly grow EBITDA margins 250 basis points in a declining volume environment.

Kathryn I. Thompson - Thompson Research Group, LLC.

Wanted to just make sure that there weren't any specific trends that would result in a deceleration in margins as we go into next year. We definitely saw the year-over-year improvement, but I want to make sure that there isn't anything else that we should take into consideration.

Matthew J. Espe

Right.

Thomas B. Mangas

Well, relative to the $13 million, I mean the Resilient segment will have 2 new plants opening through the year and with only half a year or less benefit out of the heterogeneous. So yes, that segment will see pressure from that new -- the portion of that 35 -- $30 million to $35 million of incremental costs that I talked about.

Kathryn I. Thompson - Thompson Research Group, LLC.

Okay. And again, on Wood segment margins, mix versus higher cost, I know that our checks are showing some good acceptance in price increase, but a little bit more color on margins in that segment, too.

Thomas B. Mangas

On which segments, Kathryn?

Kathryn I. Thompson - Thompson Research Group, LLC.

Wood.

Thomas B. Mangas

On Wood, yes. So just Wood did see slightly down margins in 2012. We closed at about 10.6% EBITDA margin at the global wood level versus 11.1%, so down about 50 basis points. And again, that one is -- again, the volume story year-over-year sales on a constant FX basis down about 5%. A lot of that's Patriot coming out in August on a sales basis. And I think the business started to see lumber inflation in the fourth quarter started ramping pretty aggressively. In the summertime, we were seeing pretty moderate lumber inflation and that ramped through fourth quarter pretty aggressively and is a big driver of our 2013 inflation guidance. So really, the business is there. It's going to -- the challenge there will be to take pricing to offset that inflation fully in 2013. Obviously, in 2012, we weren't able to take any pricing because it came at us late.

Operator

Your next question comes from the line of Keith Hughes with SunTrust.

Keith B. Hughes - SunTrust Robinson Humphrey, Inc., Research Division

Yes, just one follow-up question. The $40 million to $50 million of hit from raw material energy inflation, is that before pricing impacts?

Thomas B. Mangas

That's what pricing impact, Keith?

Keith B. Hughes - SunTrust Robinson Humphrey, Inc., Research Division

Is that before pricing impacts?

Thomas B. Mangas

Yes, yes, yes. That's a gross. That's not net after pricing. That is a -- it's consistent with the way we'd show up on our bridges to you. So we split out pricing versus inflation.

Keith B. Hughes - SunTrust Robinson Humphrey, Inc., Research Division

Okay. And you're planning to offset how much of that this year in your guidance?

Thomas B. Mangas

Our goal is 100%.

Matthew J. Espe

All of it.

Keith B. Hughes - SunTrust Robinson Humphrey, Inc., Research Division

Is that what you included in the guidance is the question?

Thomas B. Mangas

It is.

Operator

Your next question comes from David MacGregor with Longbow Research.

David S. MacGregor - Longbow Research LLC

Yes, Tom, question for you. The $30 million to $35 million in additional expense in 2013, how does that play out over the 4 quarters?

Thomas B. Mangas

I think you're going to see it be -- well, we'll start with the easiest one, the pension credit. That'll get spread pretty evenly, like peanut butter, unfortunately. The SG&A and manufacturing start-up loads are going to be more front half-loaded and you can see that certainly in our first quarter guidance as we're bringing up 3 plants basically in the first half and trying to get the SG&A out there to support the commercialization.

David S. MacGregor - Longbow Research LLC

Okay. And then just secondly, in saying flat to slightly down commercial opportunity in 2013, you called out education and health care. What are you assuming for each of those verticals in terms of negative -- possible negative comps?

Thomas B. Mangas

Yes, I don't know that we've been that specific on it. I would say that those 2 non-office segments, we're expecting it to be the same trajectory as we saw in 2012, so it would be kind of low single digits to maybe as bad as mid-single digits.

David S. MacGregor - Longbow Research LLC

Okay. And just how much forward visibility do you have right now in terms of the ceilings business?

Thomas B. Mangas

Well, I don't think we have any incremental visibility to what we had last year. We still have the flow business that is very much a warehouse restock for our distributors and that is, at best, 30 to 45 days of visibility. And the projects that are related to big remodel or big new construction, we have the same kind of visibility as we had before, long 6 or 12 months of visibility. There are just not enough of them. And that's what -- that mix of high flow business and not a lot of projects leads to pretty poor visibility in general.

Matthew J. Espe

Right. As Tom said, we just see that part of the business as restocking orders from the distribution channel, just kind of flow business.

Operator

Your next question comes from the line of Michael Rehaut with JPMorgan.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

First I just wanted to make sure I understood. With the Wood Flooring and you talked a lot about inflation continuing to impact that business, with the margin declines that we've seen in 4Q '12 and 3Q '12, if those year-over-year declines on a quarterly basis may accelerate in the first half of '13, if you're seeing incremental inflation and maybe not being able to fully offset it with price, I know that you've announced another price increase of 10% for March, but just trying to get an understanding of the timing of that and if the incremental cost is going to hurt you before you can offset it.

Thomas B. Mangas

Well, let me start with, Michael. We do have a seasonal business in Wood. And so that's the primary driver for the deceleration you would see in our margins in 2012. You would have seen the exact same pattern in 2011 and 2010. So just the absolute level of sales in Q2 and Q3 driven by the seasonality of the repair-remodel cycle and also the new building cycle, no matter what the size of that is, is leading to the significant decline you see between Q3 and Q4. And I'd expect that you'll see it rebuild in the second and third quarter and tail off again.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

But Tom, I guess I'm talking about the year-over-year comparisons, not -- excluding seasonality. In other words, 3Q, you were down 270 bps roughly year-over-year. In 4Q '12, you were down about 120 year-over-year. So that actually was a -- you had a better year-over-year, a less negative comp in 4Q. I'm just trying to think about cost -- incremental cost inflation versus pricing offsets in the first half of '13.

Thomas B. Mangas

Sure, yes. So I do think that the second half of the year, starting in Q3, as I said, we're starting to see the lumber inflation kick up. We've also been adding crews in anticipation of demand. And those crews aren't productive when you first add them. You've probably seen several announcements by us to be adding crews to meet increased demand and it takes them 3 to 6 months to become effective. That's -- those are probably the key drivers there. I do see your point, yes, Q3-to-Q3 down a few hundred basis points on margins on lower sales. There's probably also an impact of Patriot in there because we did sell the Patriot business in the middle of Q3 2012, that we sell other people's products without any COGS on it and through the Patriot business, so that's also part of the deterioration.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Okay. And also just wanted to make sure I understood. When you talk about the start-up costs of the plants in terms of like the extra fixed production costs, I mean, those are obviously permanent costs that you're adding in now that you'll eventually lever with -- as sales materialize. Are there any type of what you would consider maybe onetime start-up costs that you're expecting in '13? Or is this just kind of additional investments that you're making that you'll reap returns on in '14 and '15 as the sales ramp?

Thomas B. Mangas

There are onetime costs in there, Michael. Each of these plants have to go through a commissioning and qualification phase that includes running product and scrapping the old product that you're not making, going through color trials, which is what the homogeneous plant has been doing. So there is a usage of materials that is onetime. There's the debugging activity that happens with increased resources to get the plant to work and run effectively. So I don't think all the '15 incremental is a permanent add, if that's your core question.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Yes. I mean any granularity in terms of what you would think would be temporary or onetime and if any of that is also on the SG&A side?

Thomas B. Mangas

No additional granularity offer on that one. I don't think we'd be prepared to guide at that level of specificity. The SG&A is more of a long-term add.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Okay. And then just couple of minor clarifications. The unallocated corporate $51 million expense in 2012, should we just add the $10 million to that as the pension credit goes down and it should be in the $60 million range for '13? Or are there offsetting items there?

Thomas B. Mangas

I would say that at least add the $10 million. We're -- we will endure some level of inflation in our corporate expenses as well and we'll also look for ways to offset it and drive it. But right now, I would assume it's at least a pension credit plus a little bit of inflation on the core SG&A expense there.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Okay. And then one last one. The tax rate of 39% versus the reported of 42%, which number is reflected in the EPS guidance of $2.30 to $2.60?

Thomas B. Mangas

We show it both ways on the slide. If you're referring to the earnings guidance slide, which is #13, in the big number, big print, that's going to be on the 39% basis. So the normalized or everything, operating activity with the EPS is on a normalized basis there. But at the bottom there, you see those little footnotes. We try to give you the range on an as-reported basis.

Michael Jason Rehaut - JP Morgan Chase & Co, Research Division

Okay. So the $2.30 to $2.60 is the 39%?

Thomas B. Mangas

Yes.

Operator

Your next question comes from the line of Dennis McGill with Zelman & Associates.

Dennis McGill - Zelman & Associates, LLC

I was hoping to just drill in specific to volumes in the Americas if we were to just look at it for the full year. I think you reported that revenue was down a percentage or so. Wondering if you could tell us what that was in volume terms? And then to the extent that you can, can you split that between residential and nonresidential?

Thomas B. Mangas

You're talking which...

Matthew J. Espe

2012?

Dennis McGill - Zelman & Associates, LLC

2012 for the Americas across the business.

Thomas B. Mangas

For both businesses?

Dennis McGill - Zelman & Associates, LLC

Yes.

Thomas B. Mangas

Okay. So on a volume basis for Resilient in the Americas, like we said, low single digits down for Resilient, exclusive of Patriot. Up mid-single digits in Wood. And then for ceilings, on a volume basis, low single-digit growth.

Dennis McGill - Zelman & Associates, LLC

That's in total or that was...

Thomas B. Mangas

That's fourth quarter. That's fourth quarter. Were you asking a different question?

Dennis McGill - Zelman & Associates, LLC

No -- yes, I'm sorry. I was looking at the full year, but I was wondering if you have the rough splits between residential and nonresidential, just to differentiate between the overall numbers you mentioned.

Thomas B. Mangas

Okay, let's see. I don't know that I've got. Yes, I'm not sure I'm going to be able to give you the -- give me a second here, and I'll come back to you on that.

Dennis McGill - Zelman & Associates, LLC

Okay. Well, and maybe a bigger picture question is if you -- even if you just focus on revenue for the year, I think across Americas, you disclose it down a little more than 1%. And last year was up somewhere in the 3%, 4% range. So even considering all the headwinds that you mentioned, Matt, with public spending and uncertainty on the home improvement front, all of those things being relatively challenging last year as well, I guess I'm trying to figure out why volumes and revenue would be weaker on a year-over-year basis in '12 than in '11 when you had an accelerating residential market, and you could argue non-res is no worse. So I'm just trying to piece through maybe the relative shifts.

Matthew J. Espe

Well, residential is, in the Americas, is what, about 1/3 of the total revenue. So you had -- that's -- we had -- that volume was up -- really half of Frank's business, half the Flooring business in the U.S. and virtually all of the ceilings business in the U.S. is commercial. So you just had volume softness just offsetting the relative strength in resi. And then, Tom?

Thomas B. Mangas

Yes. So on a full year basis, let me come back and maybe -- I think I understand your -- what you're probing here. For ABP in the Americas, total unit volume was again down low single digits for the full year, okay? On a residential Resilient basis -- or total residential basis, total residential basis, full year down low single digits. But that's probably, frankly, includes a little bit of Patriot drag in there. Yes, that has a Patriot drag in there. So call it flat to slightly up total residential on the full year, again with builder coming in strong in the back half, but a pretty weak consumer remodel all year long. And then on the commercial side in Americas was down mid-single digits, okay? So I think your thesis of the housing's getting going, we agree. We see that. We see it significantly in wood, but we've not seen it translate into a differentiated commercial growth rate. And as Matt said, new construction for the total company is only 10%. And so we're much more dependent on seeing that commercial number respond. And when we see it, we'll be happy to pass it through. And I think that we've tried to piece out our outlook to you all so you can -- if you have a different view of what the macroeconomic looks like and the market opportunity for commercial and residential, you can piece it in there in your own way. I think we feel like over the last several years, we -- at this time of year, everyone's a little euphoric about the...

Dennis McGill - Zelman & Associates, LLC

That's why I'm asking historical numbers, so it's more factual. But just so to be clear, though, the commercial and nonresidential, as you think about it, volumes in the Americas was down mid-single in 2012 and that decline was greater than the decline in 2011, is that fair?

Thomas B. Mangas

It is. It was greater.

Matthew J. Espe

That's right.

Thomas B. Mangas

Yes.

Operator

That concludes the time allotted for questions today. I would now like to turn the call back over to Matt Espe for closing remarks. Please proceed, sir.

Matthew J. Espe

Yes, thank you. Just really briefly, we certainly covered a lot of ground today. We appreciate your attention, and thank you for your questions. And please have a good day.

Operator

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.

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