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PPG Industries, Inc. (NYSE:PPG)

Q2 2014 Earnings Conference Call

July 17, 2014 14:00 ET

Executives

Vince Morales - Vice President, Investor Relations

Chuck Bunch - Chairman and Chief Executive Officer

Michael McGarry - Chief Operating Officer

Frank Sklarsky - Executive Vice President and Chief Financial Officer

Analysts

David Begleiter - Deutsche Bank

Don Carson - Susquehanna Financial

Duffy Fischer - Barclays

John McNulty - Credit Suisse

Frank Mitsch - Wells Fargo Securities

Kevin McCarthy - Bank of America Merrill Lynch

Ghansham Panjabi - Baird

Bob Koort - Goldman Sachs

John Roberts - UBS

Vincent Andrews - Morgan Stanley

Dan Juster - Citi

Nils Wallin - CLSA

Dmitry Silversteyn - Longbow Research

James Sheehan - SunTrust

Arun Viswanathan - RBC Capital Markets

Eugene Fedotoff - KeyBanc

Robert Walker - Jefferies

Richard O’Reilly - Revere and Associates

Operator

Good day, ladies and gentlemen and welcome to the Second Quarter 2014 PPG Industries’ Earnings Conference Call. My name is Jackie, and I will be your coordinator for today. At this time, all participants are in a listen-only mode. And following the prepared remarks, there will be a question-and-answer session. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the presentation over to Mr. Vince Morales. Please proceed.

Vince Morales - Vice President, Investor Relations

Thank you, Jackie, and good afternoon, everyone. Once again, this is Vince Morales, Vice President of Investor Relations. We appreciate your continued interest in PPG Industries and welcome you to this teleconference to review PPG’s second quarter 2014 financial results.

Joining me on the call today is Chuck Bunch, PPG’s Chairman and Chief Executive Officer; Michael McGarry, PPG’s Chief Operating Officer; and Frank Sklarsky, PPG’s Executive Vice President and Chief Financial Officer.

Our comments relate to the financial information released on Thursday, July 17, 2014. I will remind everyone that we posted detailed commentary and accompanying presentation slides on our Investor Center at our website ppg.com. The slides are also available on the webcast site for this call and provide additional support to the opening remarks Chuck will make momentarily. Following Chuck’s perspective on the company’s results for the quarter, we will move to the Q&A session.

Both the prepared commentary, discussion and Q&A on this call may contain forward-looking statements, reflecting the company’s current view of future events and their potential effect on PPG’s operating and financial performance. These statements involve uncertainties and risks, which may cause actual results to differ. The company is under no obligation to provide subsequent updates to these forward-looking statements.

Today’s presentation also contains certain non-GAAP financial measures. The company has provided in the presentation appendix, 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.

And now, let me introduce PPG’s Chairman and CEO, Chuck Bunch.

Chuck Bunch - Chairman and Chief Executive Officer

Thank you, Vince and welcome everyone. Today, we reported record second quarter 2014 financial results from continuing operations, including all-time quarterly adjusted earnings per diluted share of $2.83 and record quarterly sales of $4.1 billion. The benefits of our new business portfolio are measurable as our adjusted earnings per share from continuing operations increased 24% this quarter with an average quarterly increase the past six quarters of more than 30%.

We achieved these record results due to our global reach as most major regional economies continue to expand. Our sales growth was 5%, including volume growth of 3%, which was consistent across each major region. In the U.S. and Canada, we continued to see moderate demand increases in most of the end use markets we supply. The overall pace of growth was modest early in the quarter, but accelerated in June. Certain PPG businesses continue to easily outpace the regional economic growth rate such as our automotive OEM business, which grew high single-digit percentages.

Our earnings in this region grew 12%, reflecting our increased sales coupled with additional synergies from our prior year architectural coatings acquisition. In Europe, the demand recovery continued and broadened in terms of its PPG impact as more of our businesses achieved volume improvements. The year-over-year pace of sales improvement was slightly lower than the first quarter of 2014 but that was due to the strengthening of the prior year comparison period.

We delivered 28% earnings improvement in Europe. We continue to realize excellent earnings contributions from the gradual regional economic improvement illustrating our earnings leverage driven by our previous aggressive cost reduction actions. Europe represents about one-third of our total sales and we expect this earnings leverage to continue. In Asia and Latin America combined earnings grew 14%. In Asia we achieved higher volumes driven by increased automotive OEM and general industrial demand in China and India. Overall Latin American volumes declined slightly with continuing growth in Mexico offset by weakness in South America primarily Brazil.

In addition to our continued strong operating performance, our strategic actions and ongoing cash deployment were also notable factors in our earnings growth. As I mentioned earlier we achieved additional acquisition related cost synergies from last year’s North American architectural coatings acquisition. And on a run rate basis we have delivered about 75% of the targeted $200 million synergy target in just 15 months. These include administrative procurement related and operational cost savings plus the earnings benefit from closing about 100 redundant or underperforming company-owned stores in the second half of 2013. We expect the synergy capture to be nearly complete by year end on a run rate basis which keeps us ahead of the schedule.

We have also completed several bolt-on acquisitions this year including Canal Supplies, Painter’s Supply, Masterwork and Homax. In aggregate these acquisitions are expected to add about $75 million in annual sales. But most noteworthy on June 30, we announced an agreement to acquire Comex, a leading Latin American architectural and industrial coatings company and one of the highest quality coatings businesses in the world. Let me give you a brief update on the activities that have occurred in just a few weeks following the signing of the acquisition agreement.

We held a pre-filing meeting and then submitted a formal filing with the Mexican Competition Commission requesting approval of the transaction. As is customary in transactions of this nature the commission issued a hold order indicating that the transaction needs to remain open pending completion of their review. We continued to anticipate that the commission will complete its work in order for the acquisition to close in four to six months. We are very excited about the value this transaction will bring to PPG and we are looking forward to working with Comex’s customers and employees. With regard to other cash deployment actions we repurchased $100 million or about 500,000 shares of PBG stock in the quarter. We halted share repurchases in the middle of the quarter due to the Comex acquisition negotiations which concluded by quarter end.

We ended the quarter with $2.9 billion of cash and short-term investments and we remain highly focused on additional cash deployment for earnings accretive opportunities. We are still targeting earnings accretive cash deployment of $3 billion to $4 billion in 2014 and 2015 combined. Our acquisition pipeline remains active and we expect to complete additional share repurchases in the second half of 2014.

Looking ahead, we anticipate moderate global expansion and we remain well positioned geographically and with lower structural costs to deliver excellent earnings performance from the increased global demand. In addition, we still have a variety of PPG specific earnings levers remaining. These include additional use of our strong balance sheet and cash position and further demand recovery in some of our largest regions such as Europe and end use markets such as U.S. commercial construction, where demand levels remain well below pre-recession levels.

In summary, we have again delivered record financial performance driven by benefits from our strategic initiatives, cash deployment, new PPG technologies and continued aggressive management of our businesses. And we remain optimistic regarding continued growth for PPG. Once again, we appreciate your interest in PPG. And this concludes our prepared remarks.

Now, operator, would you please open the line for questions.

Question-and-Answer Session

Operator

(Operator Instructions) And your first question comes from the line of David Begleiter with Deutsche Bank. Please proceed.

David Begleiter - Deutsche Bank

Thank you, Chuck. Chuck, you mentioned June picking up in the quarter, can you discuss what you think drove that pickup? Was it just normal seasonal activity? And what that has led to in July trends in terms of business volume?

Chuck Bunch

Well, as you know the first quarter, especially here in North America was weak due to the harsh winter. We came into April I think still without the momentum that we had seen last year in some of our major businesses and construction-related businesses in particular. You had later Easter, you had fewer selling days earlier in the month, and I think as we saw the weather improve over all of the geographies here in North America. And I think in Europe, we had what I would call regular weather patterns, so that we felt that by the second half of the second quarter, so the last month in particular, we saw lot of momentum building especially in the construction markets, but you saw it also in the automotive sales and we had a number of new programs that were started in the back half of the second quarter. So, I would say that there were some seasonal or weather-related events, but also I think some of PPG’s programs were ticking in as the quarter progressed.

David Begleiter - Deutsche Bank

Chuck, on the same bent, how would you characterize this U.S. spring and ongoing summer paint season versus prior years or even expectations?

Chuck Bunch

Well, let me – I am going to ask Michael McGarry, our newly named Chief Operating Officer to respond. Michael has had responsibility for our architectural businesses globally. Michael?

Michael McGarry

Yes. David, I would say that this year is better than last year and then it’s continuing to trend up. We had good performance in our stores that have been opened for more than one year. And we saw continued – actually in Canada, we had a nice recovery in Canada as well despite the fact that Canada by and large is a very challenging market. So, I’d say overall, it’s trending upward.

David Begleiter - Deutsche Bank

Thank you very much.

Chuck Bunch

Thanks, Dave.

Operator

And your next question comes from the line of Don Carson with Susquehanna Financial. Please proceed.

Don Carson - Susquehanna Financial

Thanks. Chuck, your OEM auto growth continues to significantly outpace the market. I am just wondering what’s driving that, is that new products, I mean, you mentioned one of the things helping business overall is just your customers adopting your new technologies? And sort of along those lines, do you have any sort of innovation or freshness index in terms of percentage of sales coming from new products, both current and where you would like it to go?

Chuck Bunch

Yes. As we have discussed before, our automotive OEM business has a lot of momentum. Two of the key drivers have been on the technology side both our new generation-seven electrodeposition coatings and we are getting an adoption rate that is accelerating on a global basis. And as the industry has continued to globalize, we are seeing adoption rates faster at our customers from new technology. The other new technology for OEM automotive coatings is the new B1:B2 PPG compact process. We are also getting very good success rates as this technology moves into brand new of automotive assembly plants. I think what we have seen over the last few years we were introducing the technology, but it really paid off best in brand new assembly plants where you could design the coatings systems, the ovens, the electrodeposition coatings around this new technology. So we have seen an acceleration of the adoption of those two technologies B1:B2 Compact Process or the top coat systems. So I would say that has caused some of the acceleration in our volume growth for PPG. We are also very well positioned with some of the companies that have been growing fastest on a global basis. So if you look at our new products and we are trying to have over 30% new products on a five year rolling basis and we are certainly ahead of that phase in the automotive OEM business.

Don Carson - Susquehanna Financial

Okay. And then just as a follow-up on the portfolio side you seem to have a major announcement every quarter, I guess the remaining business that doesn’t fit is the glass business and I am just wondering what the future of that business in the PPG portfolio is, is it something you want to get the returns up before you divest it or is it something you would consider keeping?

Chuck Bunch

At this point we have considered those businesses less core for PPG, but still strategically important. We think that we have more to do in those businesses. We have continued to invest in them. We think there are good opportunities with the market recoveries and some of the regional growth to improve the performance. And as you have noted we have been quite busy with our portfolio actions in last year and this year commodity chemicals, the transitions optical business, these big acquisitions. So we are aware of our performance in that business and the opportunities to improve and at this point we have no further news to report.

Don Carson - Susquehanna Financial

Thank you.

Vince Morales

Thanks Don.

Operator

And your next question comes from the line of Duffy Fischer with Barclays. Please proceed.

Duffy Fischer - Barclays

The refinish business you had talked about the rough winter should lead to pickup in summer, one, are we seeing that uptick in refinish and two what’s happened with market share in refinish as there has been a little bit of turnover in one of your big competitors, changing and stuff like that, where do we stand with market share in refinish?

Chuck Bunch

Well, I would say Duffy that first of all we are seeing volume improvement in refinish here in North America as we come out of the winter. And we have also seen a modest pickup in Europe in our refinish business and the business in Asia-Pacific also continues to grow. So I think we are pleased to see continued growth, top line growth on the refinish side. Here in the North America or even globally with some of the – we have seen the competitors remain fairly similar in terms of the players competing in the market. We do not have however with this business let’s say is up to – as up-to-date volume and share information. It usually takes us a little longer in this segment because the publicly available data is not always correct. I would say that we have seen somewhat of a stable share situation from our perspective. There is movement within the market between the large multi-shop operators and some of the smaller ones. So we are seeing some consolidation there in terms of the Bodyshop network. So there are continuing consolidation trends globally in the downstream portion of the refinish or automotive collision markets. But I would say it’s too early to really say that there have been any significant share shifts regionally or globally.

Frank Sklarsky

I think Duffy the only thing I would add to what Chuck said, this is Frank, is that in Asia-Pacific, China specifically, China is going to produce something like 23 million units this year. And as they produce more the car park in China will continue to grow pretty substantial and we will continue to benefit from that. So were – the Asia or the China growth is probably a little bit higher than the overall global growth for us and we already have a significant position, market position in China. So we will benefit from that sector trend going forward with that car park growth.

Duffy Fischer - Barclays

Great. And then second question probably for Frank, when we anniversary the shutdown of those 100 stores on the combination between new and the acquired business, should we think about a financial impact when we anniversary that? Do we get a pick up or kind of a reduction in cost at that point or will that be pretty smooth and unnoticeable?

Frank Sklarsky

It’s not going to be a huge financial impact. Those were done pretty much in the more so in the second half of 2013 and so we will lap that by the end of this year. The impact you will see is that overall year-over-year compares on sales will improve, because those stores would have been lower performing than the legacy stores, but no major financial impact.

Duffy Fischer - Barclays

Great, thanks fellows.

Operator

And your next question comes from the line of John McNulty with Credit Suisse. Please proceed.

John McNulty - Credit Suisse

Yes. Good afternoon. Thanks for taking my questions. So, for the first one as far as the marine business goes, it’s been struggling for a while, it does seem like it’s leveling off, at least on a sequential basis, but based on kind of your knowledge of the order books that are out there, I guess when should we be expecting the final turn in that business where we actually start to see good positive year-over-year growth?

Chuck Bunch

John, I would say that here in the second quarter, we had still modestly negative volumes in protective and marine. The marine business, notably in China and Korea, has been continuing to weaken, but at improving trends, let’s call it. And if you look at new order bookings for us, we are now we think we have turned a corner in terms of volume growth in the business trending with this order book improvement. So, I would say by the end of this year and certainly the first quarter of next year, you are going to see these new bookings showing up on our sales top line for the business.

John McNulty - Credit Suisse

Great, thanks. And then as a follow up in the performance business, certainly the margins continue to push higher, which is impressive at these levels. I guess my question is with the launch that you have had around some of the new re-branding that you are doing, both in the stores and in the architectural business and even outside the stores of the big boxes. Can you walk us through how to think about what the incremental costs were there that might have been one-time that may have even held back the margins a little bit despite what looked like pretty good ones?

Michael McGarry

Yes. John, this is Michael. I would say that from the cost side, we probably not want to get into that, but the way to think about it going forward is that we continue to get our cost structure lower, the stores are gone. We have consolidated sales into the higher performing stores. Chuck talked earlier about the run rate of the synergies were going north of where we were and we are going to be probably 90% of the $200 million number we gave you by the end of the year. So, I would tell you that everything is moving in the right direction.

John McNulty - Credit Suisse

Great, thanks very much for the color.

Operator

And your next question comes from the line of Frank Mitsch with Wells Fargo Securities. Please proceed.

Frank Mitsch - Wells Fargo Securities

Yes. Congratulations Michael on the promotion. Just to follow up on that, did you – can you update us on where the margins are on the Akzo North American business? I think you guys had indicated those they were mid single-digits in Q1, where do we stand now and how does that trajectory look for the balance of the year?

Michael McGarry

Yes. We were low double-digits in the second quarter. And obviously, our goal is to continue to move that north, Frank. So, we feel pretty good about it. When we took it over, it was basically a breakeven business at best, so a significant improvement. The team has done an outstanding job of moving that north.

Frank Mitsch - Wells Fargo Securities

It sounds like that’s ahead of expectations even your expectations, if it’s…

Michael McGarry

I don’t know, you have to ask Chuck about that.

Frank Mitsch - Wells Fargo Securities

And you mentioned earlier in terms of share buyback that you stopped halfway through the quarter, after doing $100 million, because you knew you had the Comex negotiations going on, but that you are going to restart that here as we progress. Is the way for us to think about that is our run-rate kind of quarterly double that number absent another large transaction that might be on the horizon, how should we think about the pace of the buybacks for the balance of the year?

Frank Sklarsky

Yes. I mean, I think this is Frank, while we don’t get too specific on when exactly we will be in the market, Q1 we did 200, as you know we did 100 in Q2. I think it’s safe to assume that we have always said it will be part of our capital allocation strategy for the back half including share repurchase. So, we will be back in the market in the second half for some amount. Again, it’s always going to depend on the economic conditions, always going to depend on acquisition activity. We still do look at the pipeline of acquisitions and that is our preferred route to grow the top line organically, inorganically, but we will be definitely doing some share repurchases in the back half.

Frank Mitsch - Wells Fargo Securities

Alright, great. And then lastly you mentioned that the maintenance costs were heavy in the first half of 2014, care to quantify that and what sort of a tailwind will that be for the balance of this year?

Vince Morales

Hey, Frank, this is Vince. You are talking I think about our glass segment, we have some planned maintenance and repair work coming in to the year as we communicated in the fourth quarter. In total, for the first half, it was about $17 million of year-over-year delta in terms of costs. For the back half of the year, we expect the year-over-year delta to be negligible.

Frank Mitsch - Wells Fargo Securities

Terrific. Thanks so much.

Chuck Bunch

Thanks.

Operator

And your next question comes from the line of Kevin McCarthy with Bank of America Merrill Lynch. Please proceed.

Kevin McCarthy - Bank of America Merrill Lynch

Good afternoon. Could you comment on your expectations for titanium dioxide, acrylic, and other raw material costs in the back half of the year versus the first half of 2014?

Chuck Bunch

Kevin, I would say that we are – we look at the trends as very flat right now. So, for TiO2 we didn’t see much movement between the first and second quarter and we are really not anticipating for TiO2 any movements up. For some of our emulsions, we are seeing also similar trends of little to know inflation. There is some noise around vinyl acetate monomer, but at this point, I would say that they are not strong. So, as we have commented earlier, low single-digit kind of inflationary pressure on raw materials and that would include natural gas that is up from last year although stable right now. We have a few other inflationary costs out there such as transportation, but right now, we see trends in the second half for raw materials and other costs, low single-digits.

Kevin McCarthy - Bank of America Merrill Lynch

Okay, great. And then the second question has to do with your store count, you mentioned the rationalization last year, I think back in May, you indicated a medium-term plan to add 180 to 220 stores through 2016. So, early days versus that timeframe, but I think you have made a number of bolt-on acquisitions that seem to be bringing stores with them. So perhaps you could update us on where you might be this year in terms of organic and acquired stores?

Michael McGarry

Yes, Kevin, this is Michael. So, we picked up 10 stores in the Connecticut area, 13 stores here in the Pittsburg area. We are on a run rate to add probably in the range of 22 stores in the U.S. and about 17 stores in Canada. And so when you look at the number we gave you we are certainly thinking that, that’s the minimum that we are looking at over that period of time.

Kevin McCarthy - Bank of America Merrill Lynch

So, just to follow up, Mike, you think you maybe able to exceed the 45 goal that you had for this year given 39 are in the books?

Michael McGarry

I think that’s going to be probably where we finish.

Kevin McCarthy - Bank of America Merrill Lynch

Okay, thank you very much.

Chuck Bunch

Thanks, Kevin.

Operator

And your next question comes from the line of Ghansham Panjabi with Baird. Please proceed.

Ghansham Panjabi - Baird

Hey, guys. Good afternoon. First off, can you just sort of update us with your thoughts on commercial construction in the U.S.? Your competitor that reported this morning was quite bullish on the trend line there, do you share that same enthusiasm?

Chuck Bunch

We have been seeing an improving trend as we went through the second quarter. We didn’t see as much in the first quarter. And as we look at a couple of our businesses the touch commercial construction, including the flat glass business that really reported in the second quarter the best volumes that they have seen for their business since 2007 and there are a commercial construction business, although they also saw some improvement on the residential side. I would say overall in our other businesses that touch commercial construction here, we are seeing good improvement but it was – it came later in the second quarter. But we are seeing very positive trend, so we are optimistic that these will continue in the second half of the year.

Ghansham Panjabi - Baird

Okay, that’s helpful. And then on architectural EMEA, how did the volumes come in relative to your initial expectations for the quarter. And have you also seen any improvement in Eastern Europe?

Michael McGarry

This is Michael again. Yes, I would tell you that we had very nice improvements. The areas that were up were the UK, Benelux. You had all of the Eastern Europe was up significantly. This is a nice trend for us and overall we are – we would say the only area that is still under pressure I would call it flattish is France.

Ghansham Panjabi - Baird

Okay, thanks so much.

Operator

And your next question comes from the line of Bob Koort with Goldman Sachs. Please proceed.

Bob Koort - Goldman Sachs

Thanks very much and congrats, Michael.

Michael McGarry

Thank you, Bob.

Bob Koort - Goldman Sachs

I wanted to ask maybe some granular data around the U.S. architectural market, I think you mentioned your big box revenues were up mid-single, your stores were up better than that, and your dealer network – or independent network, worse than that is should I read something about the variation in pricing power across those channels, or any shift in DIY versus contractor trends, what would you describe the difference between the channels to?

Michael McGarry

I think the difference, Bob really goes to the way they go to market. So the DIY guys show up in the home centers and I would tell you that we had good home center numbers. We also had some new products that we rolled out with Ralph Lauren with the Glidden Professional. So that was the positive. The dealers obviously are working hard in their own segment, so they are a little more challenged in the contract end market. So I don’t think there were any surprises in there.

Bob Koort - Goldman Sachs

And you had cited an outlook of modest U.S. growth, your big competitor in Cleveland certainly seemed a little bit more enthusiastic, so might you give me a definition of modest?

Michael McGarry

I would say 5% plus is the areas that we are looking at.

Bob Koort - Goldman Sachs

Got it and the last one, Chuck, hallmark of the paint industry is its stability and I noticed on the monthly volume trends you gave, April was up 3, May was flat, June was up 7, that doesn’t really speak to stability, is that atypical, or is it just normally we see a quarterly number and we don’t know that there’s quite as much month-to-month volatility in year-on-year trends?

Chuck Bunch

Well, we track these things on a daily and weekly basis too. I would say that typically you don’t see that much variability around these normally seasonal trends. But I would say this year especially here in North America, the season just started coming a little later than usual. And although we said that the first quarter was notably weaker because of the weather, we still saw that continuing. We have a bigger share now up in Canada, which had some of these same seasonal trends. So we were encouraged because we came into the year saying, hey the overall construction indexes are going to get better, we have seen the growth improving over the last couple of years. We didn’t get it in the first four months. May was, we thought, going to be a little better than it turned out to be. We didn’t have as many ship days. But I think as we have worked through some of the inventory by the time they started to reorder in June we saw some good uptick. So normally less variability but we think this is the start of the good seasonal trend now for the rest of the season.

Bob Koort - Goldman Sachs

Great, thanks for the help.

Operator

And your next question comes from the line of John Roberts with UBS. Please proceed.

John Roberts - UBS

Thanks for taking my call.

Chuck Bunch

Hi John.

John Roberts - UBS

I’m looking at Slide 7 and I really like the format of that presentation of the adjusted earnings per share trend. The last four, the right-most four orange boxes are all roughly similar in size. And you have mentioned you are going to start to anniversary the easy comps on Akzo, and if comps get a little bit more challenging on auto OEM. So should we think of – I know you don’t give specific guidance, but we should maybe think about the orange boxes maybe back in the first half of 2013 is kind of where we will start seeing comps level off to?

Vince Morales

John, this is Vince. As you know our portfolio is a bunch of different businesses and I certainly agree with your comments that we will start to anniversary some of the acquisition synergies. But if you remember last year, first half Europe was very week. We still have a lot of recovery growth left in Europe in our opinion. We still – we are battling all of last year as we pointed out earlier, tough marine market and a sluggish commercial construction market and we still have those tailwinds coming. And so there is still I think – and we still have cash deployment as another avenue as we get later in this year certainly as four to six months from now when we close Comex. So I still think there is a lot of opportunities to continue this trend up to some degree.

John Roberts - UBS

Good answer. And then on Slide 11, the acquisition, you said the acquisitions add $75 million in sales, but only $24 million has been spent on acquisitions, do we have still some cash outflow to go with those additional smaller ones you did recently?

Vince Morales

Yes. There is the Homax one closed just after the beginning of the third quarter. So there will be more money that will have gone out at that time at which, for the sales which are included in that $75 million.

John Roberts - UBS

Okay. Thank you.

Vince Morales

Thanks, John.

Operator

And your next question comes from the line of Vincent Andrews with Morgan Stanley. Please proceed.

Vincent Andrews - Morgan Stanley

Sure. Thanks very much. I am just looking at the Slide 5 here with the sequential volume trends, do you think the sequential growth rate decelerating in Europe from 4% to 3%, is that just the function of the comps being easier in the prior quarter or were you not – were you surprised that you didn’t see sort of a pickup?

Chuck Bunch

The weakest quarter last year for Europe was the first quarter, so it wasn’t easier comp. So we didn’t see any deceleration. It’s still modest growth recovery, but we are not concerned that the trend is going in wrong way.

Vincent Andrews - Morgan Stanley

Okay. And then just how is it looking going in to 3Q so far?

Vince Morales

In Europe, Vincent?

Vincent Andrews - Morgan Stanley

Yes.

Vince Morales

We said in our prepared remarks and we see that trend, it’s very early obviously in the quarter, but we actually have volume growth in almost every business in Q2. And that wasn’t the case in 1Q. So again, we think the general recovery again still modest in early innings, but we do think it’s broadening.

Vincent Andrews - Morgan Stanley

Alright. Okay. Thanks very much.

Vince Morales

Thank you.

Operator

And your next question comes from the line of P.J. Juvekar with Citi. Please proceed.

Dan Juster - Citi

Hi, this is Dan Juster on for P.J. this afternoon.

Vince Morales

Hi, Dan.

Dan Juster - Citi

So on packaging coatings, it seems like your European volumes have been declining for three or four consecutive quarters now even as you just mentioned that sort of other volume in the region is starting to improve, so can you just walk us through some of the factors that are impacting that particular business. And I think comps get better in the second half, so should we expect to see some sort of the stabilization later this year?

Chuck Bunch

The packaging coatings business, there are several factors at work especially in the European market. It has been slower season in Europe. You also have technology transition going to these BPA free coatings. So there has been some whole holding back of volumes waiting for some of these technology changes. But as I mentioned in my previous quarterly remarks, we have seen heightened competitive activity especially positioning before some of these technology changes. So you are I think also seeing the impact of that in Europe on the overall marketplace.

Dan Juster - Citi

Thank you. And then quickly on back to the U.S. architectural market, you talked about some new products that were launched Ralph Lauren, Olympic ELITE any channel fill benefit in the quarter that you can point to?

Frank Sklarsky

Not significant.

Vince Morales

This is Vince. We had only a partial quarter of those products. The products are being set throughout the quarter, so we didn’t have a full benefit in the quarter.

Dan Juster - Citi

Okay. That’s helpful. Thank you.

Operator

And your next question comes from the line of Nils Wallin with CLSA. Please proceed.

Nils Wallin - CLSA

Yes. Good afternoon and thanks for taking my question. On Europe, the profit improvement is 28% or so, it seems pretty remarkable given volumes I think in that geography were only up 3%, so would you walk us through what were the other contributors to profit growth i.e. price, currency and then if you are still tracking those 35% to 40% incremental margins in that region?

Frank Sklarsky

Yes. And that last comment of yours really nails it because as we had said previously we expected based on the cost reduction actions, all the rationalization that was taking place that we would have expected 30% to 40% incremental to the bottom line form the additional volume and we are seeing accretion at the high end of that range. And its volume on the fact that we don’t have much incremental fixed costs on either administrative side nor the capacity side, because we are still obviously significantly below peak volume. So there is additional – plenty of additional capacity utilization that we can take up as the volumes accrete. Modest – very modest pricing environment, a little bit of help from currency on the euro on a year-over-year basis as you know, so that helped a little bit. But volume in the basically mid-single digits range. And some of the business and as Vince said are becoming more broad based is what really drove that utilization. So we are seeing that 40% range of the accretion.

Nils Wallin - CLSA

Got it. Then on, I know you have mentioned number of times, back when you announced the Comex deal and obviously in this quarterly comments the quality of the assets, are there assets out there geographically that you can that might be of a comparable quality that you could be interested in?

Vince Morales

Nils, this is Vince. We don’t particularly talk about any specific targets. We do think coatings pace is as our portfolio changes have occurred over the last decade indicate, remains a very, very good space. There are small, medium, and in some cases large competitors out there, potential targets for us. So yes, I think we expect to continue to consolidate space over the next couple of years. And one of the benefits of the coatings industry is the amount of free cash flow we have. And again, we would use that again for quite some time to grow inorganically.

Nils Wallin - CLSA

Okay. Thanks. And then just one more if I may. It seems like recently you have done a number of independent distributors in the U.S. versus company-owned stores, is there a preference for independent distributors as you look to expand in the U.S., North America architectural and what might that be?

Michael McGarry

Nil, this is Michael. I would tell you that the independent distribution we bought really boiled down the fact that they had no succession plans. And they came to us and asked us to facilitate their long-term plans and we took advantage of that. Obviously, we favour our own stores if they were a chance, but we love the dealer market as well, so we participate in both of them.

Nils Wallin - CLSA

Thanks so much.

Vince Morales

Thanks, Nils.

Operator

And your next question comes from the line of Dmitry Silversteyn with Longbow Research. Please proceed.

Dmitry Silversteyn - Longbow Research

Good afternoon, guys. A lot of the questions have been answered, but I just want to follow-up on the share repurchases, I think that – was it two weeks ago when you had the conference call on the Comex announcement, you talked about suspending share repurchases until the deal closes, but now you are talking about being back in the market in the second half of this year, so did you get a different ruling or a premium from your counsel or was it just a sort of internal change of direction?

Frank Sklarsky

No, we – I think we have been pretty consistent in our commentary that it was obviously appropriate for us to suspend the share repurchases when we were in discussions with earnest with Comex during the second quarter, so that’s why we did the $100 million. And consistent with all of our counsel and the guidance we gave a couple of weeks ago, we are free to be back in the market as long as we are not in position of any material non-public information. And so that’s why we are say as we did at that time that we could be back in the market in the second half.

Dmitry Silversteyn - Longbow Research

Okay, alright. Thank you for that clarification. You have been touching base as a follow-up on your international businesses outside of North America and EMEA, in Asian architectural business and industrial business, you talked about seeing a little bit of pickup in the industrial side, can you talk about the environment in the architectural side of the business both in terms of China and Australia and other parts of Asia. And then on Latin America, this morning your Cleveland based competitor was pretty pessimistic about at least 2014 results in that region, given the economics and the foreign exchange issues, sort of what are you seeing and kind of how do you view that market for the balance of this year and into next year?

Michael McGarry

Dmitry, this is Michael. If you look at China our market was up low-double digits, earnings were up as well. Australia, we were up mid-single digits and earnings were up. In Brazil it was not a good market, but our earnings were up as well, as we took advantage of the cost, the ability to get cost out. So in all the architectural segments around the world we had improved performance.

Dmitry Silversteyn - Longbow Research

Okay. So you had double-digit growth in China in architectural paints?

Michael McGarry

Yes. That’s correct.

Dmitry Silversteyn - Longbow Research

Okay, great. And that was quite a reversal from I think you had a little bit of a loss in volumes even as late as the first quarter, so is something that’s changed there in the market or in how you go to market sort of…?

Michael McGarry

In China, we have had continuous upward trend. And in Australia we have also been growing there as well.

Dmitry Silversteyn - Longbow Research

Okay. So the overall Asian paints business being down last quarter in volumes, I assume that was areas outside of China that were weak or how do I?

Vince Morales

Dmitry this is Vince, that was marine impact.

Dmitry Silversteyn - Longbow Research

Okay. I thought that maybe we were talking about just performance coatings and architectural coatings last time as well, but maybe I am wrong. Alright, thank you.

Chuck Bunch

The marine is in performance coatings segment.

Operator

And your next question comes from the line of James Sheehan with SunTrust. Please proceed.

James Sheehan - SunTrust

Yes. Thank you for taking my question. In performance coatings, you referenced some cost inflation and you have got some price increases out there to offset that, when do you anticipate being fully caught up on the cost inflation that you referenced?

Vince Morales

Yes. James this is Vince. We enacted pricing in the first quarter in anticipation of what we were seeing in transportation markets somewhat on the weak retail wage side. We are complete in terms of cost versus price at this point. And so we don’t expect much more inflation more than we have today in those two buckets. And we have modest targeted pricing but not material for the segment overall in the back half of the year.

James Sheehan - SunTrust

Alright. Thanks a lot, Vince.

Vince Morales

Thanks James.

Operator

And your next question comes from the line of Arun Viswanathan with RBC Capital Markets. Please proceed.

Arun Viswanathan - RBC Capital Markets

Hi, guys. Thanks for taking my question. Hope you are doing well. Yes, thanks. I guess the first question was just on aerospace it’s been a pretty decent market for you guys for a little while, what’s your outlook going forward and do you think you can keep up mid to high-single digit growth rates there?

Chuck Bunch

We are still quite optimistic about the aerospace market. If you look at the commercial mainframe OEM builds from Boeing and Airbus, they are quite strong with good backlogs. We are seeing modest pickup in business aviation and the aftermarket especially with the airline profitability is also improving. So we continue to see similar trends. Military has been somewhat muted, but overall we are not seeing a trend, a change in the trends that we have experienced and we are quite optimistic that the market is going to continue to be – to perform well.

Arun Viswanathan - RBC Capital Markets

Okay. Thanks. And then another question kind of higher level, I mean historically your earnings and your top line growth was very tied to global IP, but with all the portfolio moves, it seems like that’s come down a little bit, so if we do see a material pickup in global IP over the next couple of years, would you think to see a similar benefit from it as you did in the past or you think they would be less so?

Vince Morales

No, I think we still have – we have obviously over the past couple of years expanded or exploded to the U.S. commercial construction market, residential construction market. But we still have a close link to global IP, so I think the relationship you mentioned still exist.

Arun Viswanathan - RBC Capital Markets

Okay. Thanks.

Vince Morales

Thank you.

Operator

And your next question comes from the line of Eugene Fedotoff with KeyBanc. Please proceed.

Eugene Fedotoff - KeyBanc

Good afternoon, guys. Thanks for taking my question. Just have a follow up on packaging coatings can you talk about volume trends that you are seeing outside of Europe and whether you saw a pick-up in demand before or during World Cup?

Chuck Bunch

The volume trends here in North America were slightly positive, but modest. The Asia continues to be a growth market for packaging coatings and that continued. We didn’t see a noticeable change in the industry for the World Cup. And you had a lot of other trends going on in South America at the time from volumes, currencies and the like. So, we did not see a specific change in demand for the industry due to the World Cup.

Eugene Fedotoff - KeyBanc

Thanks for that color. And also you mentioned the recovery in general industrial coatings can you talk a little bit more in details about the specific markets, end markets that are leading that recovery?

Chuck Bunch

Well, for our industrial coatings business, the strongest market globally has been automotive parts. We have seen good growth in the global automotive industry as we have indicated, but our business has continued to perform well there. Coil and extrusion markets, again they are tied more to construction. We have seen some growth there as well. Heavy duty equipment in the developed regions was a positive story, although in the developing regions in Asia, a little less so. Consumer electronics, what I would call, mixed return to growth overall, but I would say not at some of the growth trends that we have seen earlier. So, those would be a few of the markets that we have seen improving. Appliance was also better in all the regions geographically.

Eugene Fedotoff - KeyBanc

Great, thanks. And just a last question on Comex, do you think – and I am sorry if I missed that, do you think there is a potential upside to the 3%, 4% synergies that you initially identified?

Frank Sklarsky

We just announced the deal a couple of weeks ago, Eugene. So, when I think we are still going with our original financial projections.

Eugene Fedotoff - KeyBanc

Thanks a lot.

Operator

And your next question comes from the line of Robert Walker with Jefferies. Please proceed.

Robert Walker - Jefferies

Alright, thank you. On auto OEM, how much of your above market growth can you attribute to new capacity wins versus customer retrofits or other items, just wondering kind of how vulnerable the growth rates could be if auto capacity growth slowed?

Chuck Bunch

Could you repeat the question again?

Robert Walker - Jefferies

Alright, yes. The above market growth you are seeing in auto OEM, how much of that is attributed to winning higher share of new auto facilities versus kind of de-captivating existing facilities for other customers having a customer retrofitted of a plant?

Chuck Bunch

Well, I would say that the – thinking of one of the biggest trends here recently in the global industry has been the amount of new assembly plants. So, typically, those are the best opportunities to win new business is when a plant has, is just commissioning and I would say that we feel that we are winning our share – more than our share as these new plants get commissioned, because it’s an opportunity to introduce new technologies. You see less share shift on let’s say the facilities that have been in existence for a while if they are performing well. So, I would say that there will still be new automotive assembly plants starting up over the next couple of years. You have seen a number of them in China, Mexico. You have seen a number of new assembly plants announced. So, I would say the trend is still encouraging there. And I don’t think that all these plants and some of them that were winning business have yet ramped up to full capacity. So, I think there is an opportunity for more growth from some of these new facilities, but those will be the two countries that we see the most growth in, in terms of new construction.

Robert Walker - Jefferies

Alright, thank you. And then a question for Frank, in terms of free cash flow generation, do you expect a similar pattern to previous years and kind of overall, what kind of free cash flow to net income ratio should we expect this year?

Frank Sklarsky

Well, without getting into too much specific on the percentage, we do expect a similar pattern to prior years, where things do pickup in the back half. We are spending a little bit more in CapEx this year, but all that CapEx is very, very accretive in terms of capacity expansion that we expect to get a very quick return on making good progress on working capital as we go through the year. So, similar pattern and it’s always going to be kind of a high double-digit conversion ratio of cash flow to net income. So, it’s safe to assume that.

Robert Walker - Jefferies

So, do you mean 90% plus or?

Frank Sklarsky

It’s going to depend on the quarter and on the month, but overall, it will be in the certainly more than 80% conversion ratio for the year.

Robert Walker - Jefferies

Okay, thank you.

Chuck Bunch

Thanks, Rob.

Operator

And your next question comes from the line of Richard O’Reilly with Revere and Associates. Please proceed.

Richard O’Reilly - Revere and Associates

Okay, thank you. Good afternoon guys. I also wanted to ask about the Comex synergy target and I guess why only a 3% to 4%, not that there is upside to that, but it just seems like a low number, low percentage. Can you explain is it because you don’t have a footprint there, there is no corporate savings?

Chuck Bunch

Rich, if you go back to the June 30 call we held, this is an asset that from a geographic perspective is tremendously complementary to us, but we have no meaningful architectural presence in Mexico. That limits in a certain degree some of the operational synergies we would get out of the transaction. So, this is more of a plug and play type transaction as opposed to our prior acquisition last year, where we had tremendous overlap both administratively and operationally. So, I think – and this is a high-quality asset, because it’s well run as well. So, I think those two factors are the predominant reasons why you are seeing the synergy target we put out there, which is still a nice synergy target by the way.

Richard O’Reilly - Revere and Associates

And second question, a quick question, a math question, what the business unit you call now specialty coatings and materials, the (indiscernible) and optical materials, are those volumes within that aggregate coatings volume of 3%, are they within that slide there or does that slide exclude that?

Frank Sklarsky

It would include the overall coatings volume improvement would include specialty coatings and materials, you could say the specialty coatings and materials probably has a growth rate above that smaller business, smaller component in the total, but it is in the number.

Richard O’Reilly - Revere and Associates

Okay, fine. Okay. So, it’s basically the two coating segments excluding the glass segment?

Chuck Bunch

That’s correct, Rich.

Frank Sklarsky

Yes, specialty coatings and materials is in the industrial coating segment.

Richard O’Reilly - Revere and Associates

And it’s now in the industrial, okay, good. Thanks a lot for that.

Operator

Ladies and gentlemen, that concludes our question-and-answer session. And with that, I would like to turn the conference back to Mr. Vince Morales. Please proceed.

Vince Morales - Vice President, Investor Relations

I just want to get in and thank everybody for their time and interest in PPG. As is customary, I will be available today, tomorrow and next week for any follow-up questions you may have. Thank you.

Operator

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

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