James Hardie Industries PLC (NYSE:JHX) Q1 2023 Earnings Conference Call August 15, 2022 6:30 PM ET
Jason Miele - CFO
Harold Wiens - Interim CEO & Executive Director
Sean Gadd - President, North America
Conference Call Participants
David Pace - Greencape
Peter Steyn - Macquarie Research
Keith Chau - MST Marquee
Paul Quinn - RBC Capital Markets
Samuel Seow - Citigroup
Daniel Kang - CLSA
Brook Campbell-Crawford - Barrenjoey
Lisa Huynh - JPMorgan Chase & Co.
Lee Power - UBS
Peter Wilson - Crédit Suisse
Simon Thackray - Jefferies
Thank you for standing by, and welcome to the James Hardie Industries JHX Q1 FY '23 Results Briefing. Your speakers today are interim CEO, Harold Wiens; CFO, Jason Miele; and North America President, Sean Gadd. [Operator Instructions].
I would now like to hand the conference over to Mr. Jason Miele, Chief Financial Officer. Please go ahead, sir.
Good morning to everyone in Sydney, and hello to others from around the world. I'm Jason Miele, Chief Financial Officer of James Hardie. Welcome to our first quarter fiscal year 2023 results call.
Turning to Page 2, you will see our standard cautionary note on forward-looking statements. Please note that this presentation does contain forward-looking statements and the use of non-GAAP financial information.
Let's move on to Page 3. Here, you will see our agenda and speakers for today. Joining me on the call are Interim CEO, Harold Wiens, and North American President, Sean Gadd. Today, Harold will start the presentation with a brief update on our global strategy. I will then discuss the first quarter financial results, and Sean will provide an update on our North American business. Finally, I will return with a discussion on capital allocation, capacity expansion and guidance, followed by our customary question-and-answer session.
Before I hand it over to Harold, let's move on to Page 4. I want to quickly mention our upcoming global Investor Day. This in-person event in New York City will be held on September 12 and September 13. The event will focus on all areas of James Hardie, with a key focus on how we are expecting to achieve our long-term product mix growth goals. At the event, you'll have access to approximately 30 James Hardie senior executives as well as Chairman, Mike Hammes and his named successor, our Deputy Chairperson, Anne Lloyd. If you have not already registered and are interested in joining us, please register at your earliest convenience. Thank you all for joining us today, and we look forward to seeing you at our Investor Day in New York.
I will now hand it over to Harold.
Thank you, Jason. Let's turn to Page 6. Our strategy remains unchanged, and we expect it to continue to drive profitable growth globally. It is firmly embedded in the business and understood by all 5,000 of our global team members. As always, underpinning our strategy is our commitment to Zero Harm and ESG. Our strategy is built upon our 3 foundational initiatives, LEAN manufacturing, customer engagement and supply chain integration. With these initiatives fully entrenched in our company's day-to-day operations, we are continuing to drive profitable growth globally through 3 strategic initiatives. First, marketing directly to the homeowner to create demand; second, penetrating and driving profitable growth in existing and new segments; and third, commercializing global innovations by expanding into new categories.
Now let's turn to Page 7. While our strategy remains unchanged as it is entrenched in our company, we have to adjust and adapt to changing and uncertain market conditions. The current calendar year has seen the macroeconomic environment change around us quite significantly with unprecedented levels of inflation, global supply chain disruptions and the war in Europe. The current macroeconomic environment is not only creating uncertainty for the housing markets in all 3 regions in which we do business. But it is also putting pressure on our fiscal year '23 financial results primarily from increased input costs and increased freight costs. That said, we're confident that we will be able to deliver growth above market and strong returns again in fiscal year '23.
We have significant advantages and strengths as we navigate this period of uncertainty. First, we have a strong balance sheet and significant financial flexibility. Our liquidity is high, our leverage is low, and we have step-changed our earnings and our cash flows; second, we have a management team with experience in navigating uncertain markets and doing it at James Hardie, successfully; third, we have the financial strength to continue to invest in growth.
Our focus is to be prepared for a wide range of potential housing markets and to be positioned to thrive in any of them. We are laser-focused on 2 things we want to deliver during this time of uncertainty. First, delivers strong results throughout this period; second, accelerate and expand our competitive advantages through this period. The leadership team has already made adjustments to ensure we can deliver on both of these items. Jason and Sean will discuss these adjustments further during today's presentation.
What I'm excited by and impressed by is that amidst a remarkably unique period, our team was able to make the right adjustments to position the company for continued future success and also deliver global adjusted EBIT growth of plus 15% in the first quarter. This will be my last quarter presenting in this forum.
I want to wrap up by thanking the entire James Hardie global team for their extraordinary efforts the past 7 months. I could not be prouder of what you have accomplished and how you have positioned the company for future success. Thank you.
I will now hand off to Jason to discuss our financial results.
Thank you, Harold. Let's now shift to Page 9 to discuss our fiscal year 2023 1st quarter results. In challenging macro conditions, the global team has continued delivering growth above market with strong returns. Net sales increased 19% and exceeded USD 1 billion in the quarter for the first time in our history, an extraordinary milestone for our company and our employees. Global adjusted EBIT increased 15% to USD 208.4 million for the quarter, while global adjusted net income increased 15% to USD 154.3 million, for the quarter. As Harold mentioned earlier, we have already made adjustments to ensure that, one, we deliver a strong fiscal year 2023 results; and two, we also position ourselves for a strong FY '24 and beyond.
We have paused all noncritical hiring globally. We are pacing and focusing SG&A investment on the initiatives that drive profitable growth. We continue to align capacity expansion -- expenditures with market demand. We are ensuring we remain hyper-focused on cash generation and preservation, including carefully managing working capital. We are continuing to drive operational improvements throughout our organization to deliver efficiencies that improve our bottom line outcomes. And as always, we're leveraging our proven management systems and executing and driving these adjustments throughout our global organization. The entire executive team cannot be more proud of our 5,000-plus teammates and their ability to embrace and drive these adjustments throughout the organization. We've already seen the early positive impacts of these actions in our July financial results.
Let's move now to Page 10 to discuss the regional results. I'm going to go in a slightly different order this quarter as my discussion of the North American financial results will dovetail into Sean's presentation, that will be covering North America last, and I'll start here with Asia Pacific.
The Asia Pacific team delivered first quarter net sales growth of 9% to AUD 200.1 million. Impressively, the APAC business continued with step-change execution and driving high-value product penetration with price/mix growth of 12% in the quarter. Volumes declined 3%, primarily driven by adverse weather in Australia, which caused the decline in building activity. LEAN manufacturing and a focus on high-value product mix helped to partially offset the high inflationary environment, leading to EBIT growth of 2% and an EBIT margin of 25.6%. Inflationary pressures in Q1 were significant, with freight cost per unit up 20%, pulp cost per unit of 26% and energy cost per unit of 53%. We executed a second price increase, which is effective in September in Australia and effective in October for New Zealand and the Philippines. We anticipate that the APAC business will deliver EBIT margin for the full year in the top half of our target range of 25% to 30%.
Turning now to Page 11 to discuss the European results. During the first quarter, net sales increased 7% to EUR 110.8 million driven by strong price/mix growth of 14%. A 7% decline in volumes was the result of a slowdown in the housing markets we participate in within Europe. High inflation of key raw materials and freight combined with the slowing housing market led to EBIT decreasing 16% at an EBIT margin of 10.3%. Regarding inflationary pressures in Europe, our energy cost per unit were up 62%, freight was up 26% and recycled paper up 27% versus the prior corresponding period.
The EU team remains focused on ensuring effective execution of our long-term strategy to become a EUR 1 billion net sales business with 20-plus percent EBIT margins. In the short term, for fiscal year '23, we expect EBIT margin to be below our target range of 11% to 16%, as the team navigates this period of unprecedented inflation and a slowing housing market. We remain confident in our long-term strategy in the European business, and I want to thank the team for the excellent job they are doing navigating volatile market conditions while positioning the business to achieve our long-term objectives.
Now let's move to Page 12 to discuss the North America results. In the first quarter, the North America team delivered outstanding net sales growth of 28% to USD 740.1 million. The team delivered strong volume growth of 11%, an excellent price/mix growth of 17%. This price/mix growth was underpinned by ColorPlus volume growth of 31%. The team continues to do an excellent job in partnering with our customers to drive ColorPlus penetration in the repair and remodel segment. The team delivered a robust bottom line outcome with EBIT increasing 13% to USD 191.8 million, at a margin of 25.9%.
As previously communicated, the margin for the quarter was below our previously communicated expected range for the full year. This was driven by significant and accelerating cost inflation across our raw material inputs and freight. I will discuss that in more detail on the following page.
As we have previously communicated, we effectively executed a second price increase effective June 22, 2022, and we expect margins to improve sequentially throughout the fiscal year. Sean will discuss further in his section, but we now believe we have our quarterly SG&A investment at the right level to drive growth and we plan to hold SG&A expense roughly flat to the Q1 levels for the remainder of the year.
Let's turn to Page 13 to discuss the inflationary pressures we are seeing in North America. As I mentioned earlier, the inflationary pressures we are experiencing are not only significant but accelerated into our first quarter. Our cost of goods sold per unit in Q1 FY '23 increased 21% versus Q1 FY '22 and also increased 11% versus Q4 of FY '22. Also, as I mentioned earlier, we continue to invest in our growth initiatives with SG&A up 33% versus Q1 of FY '22 and up 15% versus Q4 of FY '22.
On the bottom of the page, we have provided details on some of the key inflationary impacts we are experiencing. You can see the inflationary pressures are significant versus not only Q1 of FY '22, but also versus Q4. Versus the prior corresponding quarter, freight and cement both increased 17% and pulp was up 8%. In addition to the items enlisted here, natural gas nearly doubled in cost versus the prior corresponding period. And our cost of labor was up versus both periods based on merit increases over time and the implementation of some retention incentives within our plans.
In hindsight, Q1 was a bit of a perfect storm for us in regard to EBIT margin. We did not get the benefit of our second price increase, which went into effect June 22. We still had important growth investments to make an SG&A and inflationary pressures on our cost inputs continue to rise at an accelerated pace partially due to the war. It created a situation where while we made the right adjustments to adapt to the changing market conditions, those adjustments had no impact on the first quarter. That said, we continue to be very pleased with our financial results and where we are positioned. The North American business delivered a 25.9% EBIT margin while experiencing these unprecedented inflationary pressures and while continuing to increase our investment in growth. In our view, a proof point that the EBIT margin range we introduced in May 2021 of 25% to 30% is indeed more appropriate than the old long-term range of 20% to 25%.
Further, we are now at an SG&A investment level, we believe, will drive substantial growth and do not see the need to increase quarterly SG&A the rest of FY '23. And as Sean will explain in more detail later, even if these input costs remain at these extraordinary levels, we expect to drive sequentially improving EBIT margins throughout the fiscal year, driven by price increases in June and January. We are excited about what we can achieve in fiscal year '23 as well as how we will be positioned entering fiscal year '24. We have a unique opportunity to not only deliver differentiated results but also to accelerate and expand our competitive advantages.
I will now hand it over to Sean Gadd to further discuss North America.
Thanks. Let's now shift to Page 15 to discuss how the team and I expect to deliver differentiated results in fiscal year '23, including growth above market and strong returns. Let me start on the top left of this page. As Jason mentioned, we are investing significantly in SG&A growth initiatives. This bar chart on the left is to scale, and you can see our investment in SG&A has never been more significant than it was in the first quarter. Later I will discuss a few of our additional investments specifically our partnership with Magnolia and our investment in a visualization tool, which simplifies design and the path to purchase for the homeowners.
While we believe we are investing in the right items to drive growth, we also need to position ourselves to be prepared for a variety of FY '24 housing markets. As such, we paused all noncritical hiring in early June and are ensuring our [indiscernible] investment are laser-focused on growth initiatives. We plan to hold SG&A spend roughly flat to Q1 in the remaining 3 quarters of fiscal year '23. On the bottom left is a chart you are familiar with. We continue to drive our high-value product mix in partnership with our customers. ColorPlus volume was up 31% in the quarter as our customer partnerships and marketing to the homeowner continued to drive our ColorPlus penetration into the repair and remodel segment. In FY '23, we expect to deliver on the volume mix, as shown in the bar chart, as we expand our focus to other key geographies, namely the D.C., Chicago and Minneapolis market.
As Jason just mentioned, we expect EBIT margin to improve sequentially throughout the year. On the top right is an illustrative example of how we expect that to play out. This illustrative example assumes the following: one, we delivered net sales within our guidance range of 18-plus percent; two, input costs remain at Q1 levels; three, we execute our standard annual price increase on January 1, 2023. Our June '22 price increase was executed effectively and our July results were in line with our expectations, as shown in this illustrative example of our EBIT margin improvement. For clarity, this illustrative example does not include any improvement in our input costs. But it's worth noting that we're starting to see some improvements, most notably in freight, which are 10% lower in July compared to Q1.
Our North American business is excited about what we can accomplish in FY '23. And even more excited about how we are positioning ourselves to thrive in FY '24 and beyond. On the bottom right, I provided an update to the 2 guidance metrics we have previously provided in North America. We are adjusting our net sales growth guidance from growth of 18% to 22% to simply growth above 18%. After a strong first quarter of 28% growth, we see several scenarios where we can deliver net sales growth above the prior top end of 22%. So we no longer believe the top end cap was relevant. That said, we also acknowledge the uncertainty in the housing market and the potential for underlying demand to decrease at the tail end of our fiscal year, so we have held the floor at 18%.
We currently believe that the full fiscal year volume growth in the high single digits and price/mix growth in the low teens. In regard to EBIT margin guidance, we have lowered our full year FY '23 range from 30% to 33% to a range of 28% to 32%. The continued inflationary pressures Jason described have created an environment where we do not see a path to 33% for the full year. And the midpoint of 30% is more reflective of a most likely scenario than the prior midpoint of 31.5%. The North American team and I are very excited about the position we are in to be able to deliver a 25.9% EBIT margin in a period where we increased our investment in growth and experienced unprecedented inflation puts us in a strong position as we move forward. The team is prepared to thrive in any housing market and we have positioned ourselves to be nimble to adapt to changing markets and to continue to deliver growth above the market and strong returns.
Let's move to Page 16 to talk a bit more about how we are preparing for FY '24 and beyond. Here, we have outlined the 3 key things we are focused on is to ensure we are ready for a variety of housing markets in FY '24 and beyond. And as Harold discussed, what we're trying to ensure is that, one, we delivered strong results throughout the period; and two, we accelerate and expand our competitive advantages through this period. We are positioning ourselves as follows. First, we continue to build and accelerate customer engagement and partnership. The relationships we have with our customers have helped to drive the results you have seen in the past few years, including our significant growth in ColorPlus and repairment remodel.
Second, we will be maintaining our SG&A at Q1 levels. We believe this is the right level to drive continued growth, but also to retain flexibility to adapt up or down depending on the housing market conditions. Third, we'll continue to invest in marketing to the homeowner to drive long-term growth. And I'm excited to provide you an update on 2 such investments here in a minute. You have heard all 3 of us mention accelerating and expanding our competitive advantages. These are the type of focus and significant investments we believe will help us just do that.
Let's now shift to Page 17 to discuss the concept we call connecting the rope. My team and I will be discussing this at much greater depth at the Investor Days in September. Other than ourselves, James Hardie, there are 3 key participants in the repair and remodel value chain or the rope. They are a direct customer, the contractor who's installed in the product and the homeowner. Historically, we focused on the contractor. Our thought was that if we could get the contractor to convince the homeowner why James Hardie was better than [indiscernible] we could drive penetration in repair and remodel segment. While we had some success penetrating in the Northeast and Midwest repair and remodel markets, our growth was slower than we liked and in hindsight, our approach [indiscernible] early engaging with the contractor was flawed.
Our focus now is on engaging all 3 value chain participants and helping to connect them together to drive our growth. We are creating demand directly with the homeowners by marketing directly to the right homeowners in the right locations providing trust and credibility through the right brand collaborations and social influences and improving our homeowners path to purchase.
With our customers, we are partnering closely and have top-to-top goals on how much growth we will achieve together in these critical markets. Our customers make more money when a homeowner chooses ColorPlus versus . So we can make more money together by delivering on these top-to-top growth goals we set together at the executive level.
Lastly, we still work closely with our contractors, but more importantly, we now have access to even more contractors due to our customer relationships. We're providing value to our contractors by bringing leads to them that are generated through our marketing work. Our approach to how we penetrate these ColorPlus repair and remodel markets has changed substantially, have only scratched the surface today. At the Investor Day, we'll be spending multiple hours unpacking the various components of our repair and remodel penetration strategy. What I want to leave with today after this brief explanation is the understanding that this more robust approach and strategy positions us better than we've ever been, entering a period of market uncertainty, our customers can make more money selling ColorPlus than vinyl.
Let's turn to Page 18. We are providing an update on Magnolia. We are excited to announce that our collaboration with Magnolia will efficiently kick off next week. As we have discussed previously, Chip and Joanna Gaines are the founders of the Magnolia Home and we believe are the preeminent influencers in the home improvement and renovation space. Our collaboration not only includes social influencer content, but includes a new line of products, the . This collection of products include 16 new colors, carefully curated by Joanna Gaines. This collaboration will launch next week on August 24 in the United States. Hopefully, you're following Magnolia, James Hardie and Chip and Jo on social media, so you can follow the launch firsthand. We have provided some of the important social media handles here for your reference.
We are really excited about this collaboration. We believe that Magnolia, Chip and Joanna will bring additional credibility and trust regarding the James Hardie brand to homeowners, empowering them to design the home of their dreams. And we believe the launch of the new Magnolia Home James Hardie Collection will drive further awareness and ColorPlus penetration and growth.
Let's now shift to Page 19 to discuss another exciting growth investment that is again focused on the homeowner. We are currently partnering with a third party that specializes in homeowner visualization tools. This tool could be accessible from a computer, tablet or phone. And easy-to-use interface allows the homeowner to upload a photo of their home and then drag and drop different James Hardie products to create the design of their dreams. Not only with this tool help to design the new exterior, over time, we will integrate the tool through to our contractors and customers.
So again, as I discussed a few slides ago, helping us to further connect the rope and enable the homeowner to not only design the home of their dreams but connect them to the right contractor and connect that contractor as orders due to the customer. It is an exciting innovation for us that we think can really help bring to the [indiscernible] process to a more modern approach and help improve the homeowners path to purchase experience.
A few closing comments before I hand it back to Jason. The entire North American team and I are extremely invigorated by addressing these challenging times. Many of us have helped Hardie navigate uncertain markets before, and we have learned from prior successes and failures. We believe we are in a much stronger position entering this period of uncertainty than we have ever been before. and we are confident we are positioned to thrive in the U.S. housing market.
I will now hand it back to Jason.
Thanks, Gadd. Let's turn to Page 21. I wanted to reiterate our previously announced capital allocation priorities. First and especially in periods of market uncertainty, we want to preserve strong liquidity and flexibility; second, we deploy our capital first to drive organic growth, including capacity expansions, innovation and marketing; third, we want to maintain our net leverage ratio at below 2x; and fourth, when there is available capital, we return capital to shareholders.
Let's turn to Page 22 for a brief update on our capacity expansion plans. Ryan Kilcullen will be providing a much deeper update at our Investor Day in September, but I thought it was relevant to provide an update on our capacity expansion program we had previously disclosed. Here, you will see the same map-view we have leveraged in the past showing all of the large capacity expansion projects we have scheduled to be commissioned over the next 3 to 4 years. While we fully expect to execute all of these expansions, we have made adjustments to the projects marked in yellow to adjust the timing of when we anticipate starting construction and commissioning. in greens, we continue to progress on our original time frames.
While we believe the greenfield sites in the U.S. and Europe will begin construction later than we originally planned, we continue to finalize the purchase of land in both locations. Already having land and having and shaped to commence building provides us the most flexibility in ramping capacity when needed. Further, for the time being, we have reduced the scope of our Rosehill Pilot facility, and we have paused the Fontana Pilot facility. While we believe having these pilot plans for long-term innovation is the right strategic step, we do not believe it is prudent to build them at a time where construction costs are at record highs. The current adjustments reflected on this page will deliver just over $200 million of cash savings in fiscal year 2023 versus our original plan.
As a reminder, the role Ryan took in early January 2022 was a new role to Hardie. Having the global capacity expansion program under 1 leader as strong as Ryan has provided significant benefits. He and his team are continuing to partner with our cross-functional teams on market demand profiles and we'll continue to adjust our expansion plans accordingly.
As we have mentioned in prior calls, we will be biased towards being slightly on capacity to ensure we do not get caught short on capacity. This is 1 of those examples of how we have learned from the past. In our North American business, we got [indiscernible] for open capacity in 2017 and has significantly impacted the business for many years. But on the flip side, more recently, we constructed Prattville sheet machine 1 and 2 concurrently and ahead of demand. As demand profiles fluctuated, we were able to delay and pace the start of Prattville 1 and 2 with minimal impact on the P&L. And then we were able to quickly ramp those lines when the demand required it and it was 1 of our key competitive advantages during the past few years.
While we have made some adjustments to our initial capacity expansion plans, it's worth noting that in North America, we continue to move forward with several key projects, 2 of which will add more high-value product capability this fiscal year. We are currently commissioning our Prattville Trim Finishing capability which will add much needed trim capacity to our southern markets. Similarly, we'll add ColorPlus finishing capability into the Northeast with our Westfield, Massachusetts ColorPlus finishing facility. As we have previously mentioned, ColorPlus growth was 31% in Q1 after a strong FY '22 of 27% ColorPlus growth. Earlier, Sean discussed our continued investment in driving ColorPlus growth in our repair and remodel markets, thus to ensure we keep supply ahead of demand to enable our penetration. We're moving forward with the Westfield project as planned.
Now please turn to Page 23 to discuss guidance. Today, we are adjusting our fiscal year '23 adjusted net income guidance to USD 730 million to USD 780 million. This represents a 22% year-on-year increase at the midpoint. Our primary reasons for adjusting guidance downward are as follows: one, continued inflationary pressures globally; two, our lowered expectations regarding Europe segment EBIT; three, impact of the strengthening U.S. dollar on the translation of our APAC and Europe earnings; and four, housing market uncertainty. As Sean previously disclosed, for North America, we expect fiscal year '23 net sales growth of 18-plus percent with an EBIT margin range of 28% to 32%.
Finally, let's turn to Slide 24 for a quick closing. As Harold mentioned at the start of the call, we are operating in a challenging macro environment and 1 which is creating uncertainty in regard to housing activity levels in the future. We are laser-focused on ensuring we deliver strong results and accelerate and expand our competitive advantages, and we believe we have positioned ourselves to do just that. Globally, we are financially strong with strong liquidity, low leverage and step-change earnings and cash generation. We believe we have the right strategy to thrive in a variety of housing markets, and we have a management team with proven experience in a variety of housing markets. We believe we have positioned ourselves to continue to deliver growth above market and strong returns.
Before turning it over to Q&A, I want to provide a short update on the CEO search. In our Chairperson's succession announcement last week on August 11, Mike Hammes, indicated the Board's expectation that the CEO role will be filled within the next 30 days. 30 days is prior to our Investor Day on September 12, the expectation is you have access to the new CEO at our Investor Day in addition to Chairman, Mike Hammes and Deputy Chairperson, Anne Lloyd. As questions regarding the CEO appointment are most appropriately answered by the Chairman or the Deputy Chairperson, we will not be answering questions on that topic during today's call. I'd ask that you hold such questions for Mike and Ann in September.
Operator, that concludes our prepared remarks. Please remind our call participants how they can ask a question and then commence the Q&A session. Thank you.
[Operator Instructions]. We have a first question from the line of David Pace with Greencape.
Well done on a solid result. Just with reference to the gross profit percentage margin decline of 3.1% in North America, is that all inflationary pressures as opposed to delivering so-called value-added products at lower percentage margins.
It's all inflation, David. We're delivering the right products. We actually have great -- you saw a great price mix, which is more profitable products. So it's -- inflationary products are hugely significant.
So sorry, and just by way of follow-up, I'm right then in suggesting that higher price points generally equate high margins on the value curve?
Yes. That's generally correct, Dave.
Yes, Dave, just put the inflationary pressures in the context a little bit. So just picking 1 item. So if you think about freight in North America, the freight costs we experienced in Q1 versus what we were experiencing back in February, is about a $15 million headwind to the Q1 EBIT. It's worth 200 basis points just by itself. So the inflationary headwinds have been significant. We commonly talk about the big 4 items in our costs with you guys being freight, labor, pulp and cement. And those 4 make up over 50% of our total cost of goods sold. And we've tried to outline for you a bit more clarity on those items.
But I think the other thing we usually don't talk about is the rest of the costs, and those are also up significantly. So as an example, paints and primers and packaging, which includes pallets, those items are up combined 18% versus the prior Q1. And those items would -- if you combine those 2 things together, they'd be in the top 4 as well or what would be the top 5. So we're feeling strong inflation across the board. The good news is we've seen some of those costs stabilize. And in particular, as Sean mentioned, we've seen freight come down in July by 10%. So we see the margin progression Sean laid out even if the costs remain where they are in Q1. So we feel good about where we're at, but the inflation is significant.
We have next question from the line of Peter Steyn with Macquarie Group.
Sean, could you perhaps just shine the light a little bit on your experience and your visibility in the R&R market at this point? Obviously, has changed fairly quickly. But what are you seeing in repair and remodel markets. I'm particularly curious in terms of some of the lower bound outcomes that are possible. What your scenarios would be and assumptions would be around your R&R outcomes?
No problem, Peter. From our perspective, as we talk through to the contractors and we go and understand what demand looks like. One, our order [indiscernible] remains pretty strong; two, the backlog that still exists in the R&R segment is still there. We think that probably holds the industry all the way through to January on average. And then I think February and March will probably be a slight dip. And that's only based on what we talk about now when we speak to contractors, that will tell you the phone calls that they're receiving, which offer jobs basically February, March, April into next year aren't anywhere as intense as the core that we're getting. So we will -- I think we will see that.
Now in terms of when and if there is a downturn, we've modeled a number of scenarios. I mean, at the end of the day, obviously, we are now in R&R business. R&R will be more buoyant in a downturn than new construction. We actually did a heavy review of the last global financial crisis and try to see some comparisons and when we saw the dip in that scenario, which we thought was pretty severe, we don't think this 1 will be anywhere near as severe. And so we think that there'll be -- as consumer confidence is light, I think there will be a bit of a dip, and then I think it will start to come back. So we don't see or feel like it's going to be that significant. But again, [indiscernible]. We'll be ready for it if it is.
A very quick follow-up. What proportion of sales do you see R&R at the moment? And what do you think perhaps the full year and then the medium term would look like?
Yes. We still think it's -- R&R makes up 65% of our business. We are -- as we stand here today, we're making as much as we possibly can, and it's more than we ever had before, and we're shipping every stick. So we still currently run a backlog. So the mix hasn't really moved around on us. We feel good about our ColorPlus penetration, which just tells me that R&R is growing. But that base in the Northeast is still relatively small compared to the whole pie. So we still think R&R is 65% of our business.
We have next question from the line of Keith Chau with MST Marquee.
First on Sean. Can you just give us a sense of where you see channel inventories? I know it's tricky to be exactly definitive about it. But can you just help us understand whether you think your product in the channel, is that the right level? Do you think the channel is still short? How can you give us some confidence that the channel is not full at this stage? We're just getting some very, I guess, varying comments on the state of the channel across different building products at this stage.
Yes. No problem, Keith. There's no doubt there's a focus on our customers or by customers to ensure the working capital is being controlled, which is very natural for a market that's uncertain. What I will tell you, we have been working with all of our customers. So we do understand with most of them where the inventory levels lie. Again, we run a backlog right now. So we have -- we're still the channel to some degree, particularly around product mix now, more than total volume. So I think in plank will be in free supply and that would be flowing directly out of their warehouses. Products like Trim, products like [indiscernible], products like panel, we're still in pretty heavy backlog. So we don't believe we have a ton of inventory.
The other part is, as you know, 3 of our key customers, , Lansing and then obviously [indiscernible], we actually have analysts inside of their business looking at the inventory level. So we feel pretty close to where inventory levels are at. Now I do think what we don't know today yet, even though we've had the top-to-top discussions is how low they want to run their inventories, but the expectation is that we'll run them low, which would then put more emphasis on -- to our 2-step distribution, which we already had those conversations with them to get them set up. So we feel pretty confident that we're not having stopped the channel.
So just as a follow-up question to that and how it relates to your volume guidance for the full year of high single digits. Is the change in that guidance, and I think previously, it was 9% to 10%, so maybe it's just a slight change? But is the change to that guidance driven by channel movements or a slight moderation of your expectations where volumes could get to going into the end of this year? Because it sounds like there is at least some moderation of the expectations for volume growth heading into particularly the fourth quarter.
Yes, there's a bit of both in that, Keith. I do feel like Q4 is a little uncertain based on what we're hearing in the marketplace. And then the rest of it is more about actually our ability to shift, I don't think -- I think the order file looks relatively robust still. But I do think inventories will be managed by our customers. And to be honest, the conversations I have with the top-to-top feels more like real conversations that have been pre-COVID, which was -- I don't run my business correctly, which means they've got to run the right working capital to deliver my service. So I think it's returning back to what I think is a normal time for the industry.
We have next question from the line of Brook Campbell-Crawford with Barrenjoey.
There was a comment earlier on or you flagged that you're sort of pausing the pilot investment to the plants. Can you just talk a bit more about that? And should we expect, I guess, less and new product launches over the next couple of years? And then also you talked about 2 new high-value products [indiscernible]. If you could talk about that, that would be great.
Yes. Thanks, Brook. No, it doesn't have any impact on our ability to innovate. We're able to innovate within our labs and within our production lines. And so as we see the potential for -- we have more capacity coming online with Prattville 3 and 4. We have the ability to use the existing lines to -- for the innovation team. So it's more a cash play where construction costs are at all-time highs. The pilot plants are really about long, long-term innovation. So we don't see it having a significant impact on our R&D team or the ability to innovate new products.
Yes. Got it. And the 2 new products, Jason, you mentioned 2 high-value products this year. Can you provide some sort of insight into what to expect there?
No, sorry, Brook. I think that may have been taken out of context on the call. I was referring to -- when I was talking about capacity on the call, I was talking about the fact that Prattville 3 and 4 provides us -- or sorry, the Trim capacity we added in Prattville gives us more HLD Trim, which is a high-value product as well as the Westfield site is giving us more color capacity, which is a high-value product. So apologies for the confusion, but those were the 2 high-value products I was referring to through our capacity expansion.
We have next question from the line of Lisa Huynh with JPMorgan.
Just around the comments around demand and the North American sales growth. Do I hear you correctly in that you said you saw a line of sight to sales growth above the top end of that previous 18% to 22% guidance range? And can you just talk briefly about what's driving that?
Yes. You did hear that correctly. There's definitely scenarios that we play out, which would suggest we can get above the top of the range. Now the 1 thing that obviously the reason we took it out instead of expanding the range is we still feel a little bit unsure what Q4 looks like from a market perspective. And as that starts to clarify, we'll get a bit of feel for that.
The upside is really around mix. Obviously, we got a price increase that went in June 22, that will hold. And from then on, if you look at obviously our ColorPlus growth of 31% is higher than we were targeting. And we see that continuing as we go. And then as more true capacity comes on with Prattville, we'll start to sell more high-value Trim in the market as well. So we we're going to get more upside from the mix perspective.
Volumes, like I said, will be high single digits, mid to high single digits [indiscernible] what Sean said. So last quarter, we would have been talking about pricing mix 9% to 12% and we've upgraded that to on the call [indiscernible] price mixing in the low teens. And then, of course, as you just said, volume in the high single digits. So you run that, there's plenty of scenarios above the 22%.
Okay. And then just in terms of the follow-up, the ColorPlus growth of 31%. I think last quarter, you talked about expanding the consumer marketing to some new markets. Can you just talk about whether these markets are driving the pickup in growth or where you're kind of seeing that acceleration and where it comes from?
Yes, sure. So we have opened up other markets. So Chicago has opened up, DC's opened up, Minneapolis is going to be opened up shortly. To be fair, those markets in [indiscernible] too soon to be -- I mean we haven't -- we've only just started marketing. So it's too soon to count on those 3 new markets to be delivering the results. What I will tell you is overall Midwest and Northeast is up significantly. And then our epicenters, just like I mentioned last quarter, are outperforming the control group. And then we are getting some opportunity as we get more capacity and we get in front of this opening up our multifamily desk. And so ColorPlus plays a pretty good part in multifamily because it's a great value proposition. One, it's on the wall cost is advantaged because that's obviously painted in the factory. And two, in terms of when people are holding on to those properties, having a 15-year non-prorated -- sorry, prorated warranty enables them to look at the life cycle costs and ColorPlus plays pretty well there. So we're starting to get a little bit of movement in the multifamily segment as well.
We have next question from the line of Simon Thackray with Jefferies.
Just in your commentary vis-a-vis the margin performance in North America and APAC, and you've called out the inflationary impact, but you've also called out in your results presentation, the benefits that LEAN provided in the quarter. Can you quantify those LEAN benefits from a margin perspective for the 2 regions given that commentary?
Yes, Simon, it would be significant, especially as part of LEAN is focusing on waste reduction and this level of expenditure with input costs, we're seeing big benefits there. I don't have the number for you right now, but it would be strong. The performance in the plant has been good but you're probably getting a bigger bang for your buck and the fact of all the input costs are so expensive that it's causing you to save more money in that regard.
Sorry. Would it be easier to ask the question, have the -- with the quantum of the LEAN benefits have increased versus the fourth quarter versus the pcp? Is that a better way to ask the question?
Yes. I think -- and the short answer is there's no doubt LEAN has offset some of the headwinds, yes, that will be the short answer. Reality is our focus on LEAN has been about increasing net hours and increasing yield. Obviously, yield is a big play here. Raw material costs are so high. So annuity is at an all-time high for the business in the quarter. So are net hours. So the LEAN program is definitely offsetting some of the costs, but the costs are so high in inflation from an inflationary standpoint. We weren't able to offset all of them. And in fact, at this point, looks minimal, but definitely getting some good gains out of the LEAN system.
Okay. And then if I have 1 follow-up then, just on the SG&A. Jason, you called out aligning SG&A to profitable growth and obviously, North America keeping SG&A flat for the next 3 quarters as well, Sean. Can you just give us a sense of whether the customer-orientated SG&A or marketing spend goes up and other spend comes down? How should we be thinking about that mix of SG&A given your growth initiatives and customer orientation, please?
Yes. I'll start with -- we're obviously continuing to invest in marketing. It will go slightly up because we are opening up new markets. So we've got 3 new markets in which we're going to start. Even though our dollars are way more optimized in the current epicenters, so it will go up. Obviously, we've also got a launch with Magnolia. We want to make sure that launch is large. We want to make sure it's heard around the country. That's not just around the epicenters. We wanted -- it's a national launch for us. So we will be spending a bit of money there and then offsetting that with what we see is not essential spend.
We have next question from the line of Sam Seow with Citi.
Just a quick question on price. You took 4% out of cycle in the U.S. and that won't have a full impact to Q3. Wondering if you're in a position for a material kind of hike in Q4? Was that going to be more tokenistic? And will that be value-priced or will that just be to cover costs and hit that kind of margin profile you provided?
Yes, Sam. As I said last quarter, the off-cycle price increase was really about what we thought [indiscernible] of inflation that was coming in. Now in reality, it's probably even exceeded what we were thinking at the time. But I do envisage our normal January 1 price increase. It's going to be more about value pricing for us and going back to our traditional type of pricing, somewhere in the vicinity of 3% to 5%. We're working through that right now as we speak, and we'll get up to [indiscernible] with our normal standard value pricing model.
Sure. And then in Australia, correct me if I'm wrong, it looks like the out-of-cycle price rise there on Linea and [indiscernible] is about 4%. Is that right? And always because of the product mix, it's probably going to be more or less than that?
Yes, the price increases in Asia Pac are weighted average of 5% now.
We have next question from the line of Lee Power with UBS.
Sean, do you think you could maybe talk a little bit about where you think that the installed cost differential is for ColorPlus versus vinyl in Northeast, just given the amount of cost inflation that we've seen for you and your peers? Where do you think that differential sits now?
No problem. There's no doubt from a material perspective, the gap's closed -- closing, I mean, I don't think -- just to -- for the people on the call, the on-the-wall cost won't be significantly changed. So the [indiscernible], labor still is 2/3 of a component of an installed job. So when you put that into perspective, the vinyl costs going up faster out is good, but it's not really going to change the on-the-wall cost that significantly. What I will tell you is the polymer pricing, particularly for the polymer product, which is their version of shingle, that now is getting pretty close to ours. Now obviously, they're advantaged on an installed basis, but that's probably as close as it's ever been from a GAAP perspective.
And then my final answer is that just taking a little bit out of the Northeast for a moment. There are geographies where paint costs have moved to a point where its color will start to make sense. And we've seen examples of that in the Southeast, where historically, we've struggled to penetrate with color where now the paying costs at a point where as we start to educate the market again on color and the advantages of color. We'll get some -- we should see some opportunities pop up in the Southeast just purely on economics.
Cool. And then maybe just a follow-up on the ColorPlus volume, the 31%. Can you give us what that was on a quarter-on-quarter basis sequentially?
Yes, give me one second. I can get to that. Just one second. Let me get back to you there. I don't want to hold up the call.
We have next question from the line of Daniel Kang with CLSA.
Just, Sean, just I guess a follow-up on the R&R exposure. Can you remind us what proportion of the R&R sales are driven by renovation and what proportion are to repairs?
Yes. Most of our sales will come out of renovation. We target the reside segment, particularly in the repair and remodel market. Reside and a little bit of remodel. Repair is really, really small. And generally, we definitely don't target it, and it's unlikely that repair gets some of fiber cement, just because unless our own fiber cement, it's not going to match and it's going to be -- you're going to have one part of the house that's going to age very differently to the rest. So we think that repair is a very small cement segment for us.
Right. And just a quick question on the competitive landscape. Wondering how you see the new capacity arriving from your competitors? How do you see that being digested in the slowing market?
I think there's still space for more capacity. So we obviously are still committed to Prattville 3 and 4. There are backlog still in the marketplace. So I think we see the -- we see our volume entering the market in certain areas. Obviously, we will do our best to ensure where they go is where we want them to go, and we continue to work on that.
We have next question from the line of Peter Wilson with Credit Suisse.
Apologies if this was mentioned earlier, but the upgrade to North America price mix, is that all mix? Or is it a price also...
Mix, Peter. We haven't changed anything on price. So we had already announced the increase on June 22. So that's all about the ColorPlus growth, Trim growth, et cetera.
Yes. Okay. Can you comment a little bit more on that? Because I mean, ColorPlus growth is still very strong, but a similar percentage growth rate to what you've done in the last couple of quarters. So just wondering what has changed so much, particularly given ColorPlus is still only a minority of your sales there.
Yes. And I'll just quantify it. So ColorPlus is 8% up quarter-over-quarter, [indiscernible] consecutive quarters, just to follow up on Lee's question. Yes, the confidence, I think, comes from 2 things. One, we have a pretty robust Trim backlog, which obviously as Prattville starts to make more Trim, we'll get the benefit of that. Two, we do see color continue to play a big part of our price mix. And then offsetting that, and our interiors business is becoming a much smaller percentage of our total business. So our lowest price material would be backer. And backer is essentially, we made the decision to ensure that, yes, our key partners in the world of backer get to grow. We are restricting it in terms of if there's an opportunity to make exteriors, we'll make exteriors before we make backer.
Great. That's helpful. Appreciate that. But I guess what changed so much in your expectation versus only a few months ago.
Colors is outperforming and the -- sorry, the ramp-up of Prattville is ahead of schedule.
We have next question from the line of with Goldman Sachs.
This is [indiscernible] from Bank of America. Could you give us a sense of what the volume growth was for exteriors versus interiors in North America? Apologies, if I missed that in the presentation. And also to the point you just mentioned that interiors are increasingly lower part of your volume. Is that number like close to 10% now? Or is it around the 15% now?
Yes, it's a good question. Volumes for North America were plus 11%, exteriors would have been north of that. And interiors would have been closer to flat. As Sean just mentioned, we're focusing on exteriors. And yes, to your point, interiors as a total mix of the business is now probably below -- just below 10%. So there's a big shift from 5 years ago where it would have been closer to 20%. [indiscernible].
We have next question from the line of Paul Quinn with RBC Capital Markets.
Just on ColorPlus at 31% year-over-year or 8% quarter-over-quarter, what percentage of North American volume is ColorPlus today?
Yes, it's roughly 1/4 of our exterior volume and growing. So we are very pleased. Certainly, the last sort of -- if I was to take it back in history, we sort of stalled out about 21% for about 7 or 8 years, and we've seen that grow over the last sort of 24 months.
Okay. And then just as a follow-up, what is the Massachusetts ColorPlus add to that? Does that allow you to get up to 30%, 35%? Or what additional volumes that could be?
It's a tricky question only because it depends what your base business does. But we do -- obviously, we see that most of our opportunity in the color world still against vinyl, and we see most of the opportunities still in the Northeast where we still are very lowly penetrated. So I will tell you that Boston, we like where the Boston market is. It will be right now in probably the best position of all epicenters. And so we continue to invest there.
Thank you. Ladies and gentlemen, we have reached the end of the question-and-answer session. And I'd like to hand the conference over back to Mr. Jason Miele for closing remarks. Over to you, sir.
Thank you. I want to quickly thank our entire team of 5,000 teammates around the world. Our entire organization is energized and excited about where we positioned ourselves. We believe we're in a great position to continue to drive strong results and accelerate and expand our competitive advantages. It is really an exciting time to be a part of the James Hardie team. And we appreciate everyone for joining us today. And hopefully, we'll get to see you in New York. Cheers.
Thank you, sir. Ladies and gentlemen, that does conclude our conference for today. Thank you for participating. You may now disconnect.