Good morning and welcome to Acuity Brands' fiscal 2018 third quarter financial conference call. After today's presentation, there will be a formal question-and-answer session. [Operator Instructions]. Today's conference is being recorded. If you have any objections, you may disconnect at this time. Now I would like to introduce Mr. Dan Smith, Senior Vice President, Treasurer and Secretary. Sir, you may begin.

Thank you and good morning. With me today to discuss our fiscal 2018 third quarter results are Vern Nagel, our Chairman, President and Chief Executive Officer and Ricky Reece, our Executive Vice President and Chief Financial Officer. We are webcasting today's conference call on our website at acuitybrands.com. I would like to remind everyone that during this call, we may make projections or forward-looking statements regarding future events or future financial performance of the company. Such statements involve risks and uncertainties such that actual results may differ materially. Please refer to our most recent 10-K and 10-Q SEC filings in today's press release, which identify important factors that could cause actual results to differ materially from those contained in our projections or forward-looking statements. Now, let me turn this call over to Vern Nagel.

Thank you Dan. Good morning everyone. Ricky and I would like to make a few comments and then we will answer your questions. Overall performance this quarter was solid, particularly against the backdrop of current market conditions, including a continued soft lighting market. I know many of you have already seen our results and Ricky will provide more detail later in the call, but I would like to make a few comments on the key highlights for the third quarter of 2018. Net sales for the quarter were $944 million, up almost 6%, compared with the year ago period. Reported operating profit was $105.9 million compared with $131.5 million in the year ago period. Reported diluted earnings per share was $1.80 compared with $1.90 in the year ago period. There were adjustments in both quarters for special charges, as well as certain other add-backs necessary for our results to be comparable between periods as Ricky will explain later in the call. In adding back these items, one can see that adjusted operating profit for the third quarter of 2018 was $135.8 million compared with adjusted operating profit of $148.3 million in the year ago period. Adjusted operating profit margin was 14.4%, a decrease of 220 basis points compared with the year ago period. Adjusted diluted earnings per share was $2.37, up 10% from the year ago period. For the first nine months of the fiscal 2018, net cash provided by operating activities was $301 million compared with $198 million provided in the year ago period. So far this year, we have spent $164 million for two acquisitions and $298 million to repurchase two million shares of our stock. In addition, as Ricky will explain later in the call, we entered into a new $800 million credit facility with our bank…

Thank you Vern and good morning everyone. As Vern mentioned earlier, we had some adjustments to the GAAP results in the third quarter of fiscal 2018 and 2017, which we find useful to add-back in order for the results to be comparable. In our earnings release, we provide a detailed reconciliation of non-GAAP measures for the third quarter of both fiscal year 2018 and 2017. Adjusted results exclude the impact of amortization expense for acquired intangible assets, share-based payment expense, acquisition related items, special charges for streamlining activities and excess inventory adjustments related to facility closures. We believe adjusting for these items and providing these non-GAAP measures provide greater comparability and enhanced visibility into our results of operations. We think you will find this transparency very helpful in your analysis of our performance. In addition, many of our peer companies, especially as we become more of a technology company, make similar adjustments, so it will help as you compare our performance to other public companies in our industry. During the third quarter of fiscal 2018, we recognized a pretax special charge of $9.9 million, primarily related to the planned consolidation of certain facilities and associated reduction in employee workforce. The special charge consists primarily of severance and employee related benefit costs. We also recorded a $3.1 million charge during the third quarter to reserve for raw material inventory located at one of the facilities where production activities will cease because it will not be cost effective to relocate that inventory. We expect to incur additional costs in future periods associated with the closing of the facilities, primarily attributed to early lease terminations and moving cost. We expect the annual savings from these streamlining actions, once fully implemented, to exceed the amount of the special charge. The savings will be reinvested…

Thank you Ricky. Current market conditions in the lighting industry continues to create a challenging environment for management to drive short term financial performance while continuing to invest in attractive long term opportunities. Nonetheless, we are optimistic regarding our long-term future. Our many actions taken this quarter to reduce costs and improve our capabilities were done so we can continue to optimize our financial performance, while continuing to invest in areas we believe have high growth potential over the long-term. We are often asked about the vitality and conditions of the key end markets we serve. On one hand, market data suggests that the overall growth rate of the U.S. lighting market improved slightly this quarter compared with the previous three quarters, which were down low single digits compared with the year ago periods. Many reasons have been cited for this softness including among others, weak nonresidential construction activity, lack of skilled labor, current uncertainty regarding trade policies, substitutions to lower priced alternative products and pricing pressures in some end markets for certain less featured products. On the other hand, while we believe all of this is true to varying degrees, we continue to pull our vast customer base and channel partners and from the majority we continue to hear guarded optimism regarding the prospects for future growth. Generally speaking, the trades continue to be busy and backlogs are favorable. As for our market expectations for the balance of calendar year 2018, we continue to see favorable trends in certain leading indicators, hear from customers that large projects are set to release and see some encouraging reports from third-party forecasting organizations. Nonetheless, we remain cautious due to increasing inflationary pressures including the impact of recent tariff actions. However and most important, we expect to continue to outperform the overall growth…

[Operator Instructions]. Our first question comes from Brian Lee with Goldman Sachs. You may go ahead.

Hi guys. Thanks for taking the questions. Maybe just to start off, big result in the Tier 3, Tier 4 sales. So kudos to you guys on that. The 40% growth that you mentioned, Vern, that was the best result we have seen in over a year in that particular category. Also, a pretty big acceleration off the past few quarters. Was this is mostly driven by the strength in large infrastructure and utility projects you mentioned in the prepared remarks? Just trying to get a sense for, as you alluded to how lumpy this quarter's result was for that group of products and then what you are thinking about the growth for Tier 3, Tier 4 sort of in the back half of the calendar year, if it moderates at all?

So Tier 3 and Tier 4 solutions really are part of our both Atrius-based luminaires as well as our interconnected energy management/lighting solutions. The growth that we continue to experience is really as more and more customers recognize the future potential benefit of what these solutions and capabilities can mean to their business really by transforming how they view their property and their assets, building assets, really as an expense, making them more as a powerful opportunity to be a strategic asset, we are taking advantage of not only the quality of light upgrades, the energy savings, but what the future potential of this is. So we see expansion in retail, we see expansion in other public spaces for these types of luminaires. The growth this quarter, as we continue to say, everyone, all of you analysts are looking at it on a quarter-by-quarter basis. We tend to look at these things more on an annual basis because the construction cycle for various customers varies greatly. And so, yes, this quarter was terrific but if I look at the full year, we are experiencing full growth or great growth in these categories and we expect that that overall growth rate continue as we look at more annual increments not necessarily quarter-by-quarter. Yes, this was strong quarter and the backlog continues to be favorable for Acuity.

Okay. Fair enough. And maybe just quickly on that point, do you expect the large infrastructure and utility projects shrink that you saw this quarter to persist here in the near-term or were those fairly concentrated in the quarter given the timing of the projects? And then just quickly on the balance sheet, I am wondering if you could, Ricky, give us some color on two moving pieces, the big inventory build, what the composition was there, what drove the increase and how that should trend going forward? And then any commentary you have on the payables moving up as well? Thank you guys.

So Ricky, let me take the infrastructure question. We are very pleased and excited by sales forces bringing solutions to the infrastructure and utility community. We have great products. We have great solutions. And we have great sales forces that are differentiating those capabilities to our customers. So we continue to see that as a positive growth area. And we would expect that to continue as we go forward.

Yes. And Brian, on the balance sheet, on the inventory increase, it's primarily in the finished goods area as we increased inventories, as we expand our customer base and home center and showroom channel. So we are building up inventory as we load into some of these new customer bases. Some of the growth that we are seeing in this Tier 3, Tier 4 opportunities were some big corporate accounts. This necessitated us to bring in some finished goods as they are managing their construction cycle and when we would anticipate going in and doing the installation and commissioning of those products. And then the Contractor Select new product line or revitalization of that existing product line is taking off at some 200-plus new product families in that category and as we are ramping up to and launching those products out into various channels has caused the finished goods to come up. The payable increase is directly related to that. Much of this increase happened later in the quarter and therefore the payables have not yet matured and paid off. We would expect to see the inventory to gradually come back down as we launch these and will then just get in refurbishment, refilling type of endeavor. But the primary was in the finished goods area for the reasons I described.

Thank you. The next question comes from Christopher Glynn with Oppenheimer. You may go ahead.

Thanks. Good morning. Nice volumes. As the price mix has gotten more negative, you know the volumes have certainly picked up here. Are you seeing a real demand response to your kind of pricing at the low end and kind of seeking out a final remedy for the emergence of the offshores over the past year or two?

So Chris, as we think about that portion of the market that favors more, let's say, less featured, more price competitive solution sets and you are right, it's being driven we think by, well still legal activity in terms of dumping a product on to the market, which various industry consortiums are looking to address. That, notwithstanding, we are introducing, relaunching as Ricky points out, Contractor Select and this portfolio of products and services and the way we are attacking the market in a little bit of a different way, is directed right at the opportunity of serving this market. And we are in the early stages of introducing our Contractor Select capabilities but we are already starting to see the benefits of that. We believe in the last quarter, we picked up a couple points of share in that portion of the market. We see our unit volumes continuing to pick up but we are also seeing, from a pricing perspective, attacking that with better margin products doing that. I would expect the price in that portion of the market to continue to be challenging but I think that we are in good stead to make that happen. I know that there is a lot of questions regarding the overall marketplace for larger projects and is pricing in some of this moving into that world? You know, I find it fascinating looking at various data points. If we look and we use the U.S. census data a lot, if we look at private nonresidential construction over the last year and even a little bit longer than that, the market's been flat to down. This is construction spend. This is nothing, lighting is only a small portion of that. So we are fighting, if you will, this trend in the marketplace, which by the way, to me, we are starting to see some positiveness. The last quarter, we saw an uptick from the U.S. census data on private nonresidential construction. So for us, it's really more about a volume gain. We don't believe that pricing, if you will, has meaningfully moved into that market or people who are dumping products have moved in that portion of the market. We see on our large jobs just know that's what's contributing to the flatness, if you will. They are slightly down in the C&I channel. We are seeing a resurgence, which we hope is a harbinger of positive things in that lower, less featured area of the market, where we think we have a real competitive advantage based on our ability of the size of portfolio, our ability to serve customers. We are trying to get our supply chains kind of linked up a little bit to the increase in volume. So we are having a little bit of noise around that. But I would tell you that we are favorable to where we have positioned the business to compete in that world going forward.

Okay. And it sounds like Contractor Select is more a go forward driver. So were some your volume successes in the quarter at the low end involving taking an upfront margin hit and flushing some of the product that wasn't cost sized to serve that market?

I wouldn't say that necessarily. No. We are moving product into the marketplace and introducing solution sets. Contractor Select is a relaunch. As Ricky points out, there is a number of new products that we also have products in that space that are very cost-effective. I think it's really we are altering our service model a little bi. We are altering how we support our customers. And truthfully, our key customers are far more interested in having the preference of Juno or Lithonia based luminaire because Acuity stands behind in. When we give warrantees on these products, people know that they can count on us to deliver against them and they are not sure about some of these other entrants that are into the market that are selling, if you will, over the Internet. There is a lot of training. There is a whole lot capability that goes along with what Acuity brings to the marketplace that are at points of differentiation into the market, not just price. Obviously price is important, but it's not the only thing that occurs. So I would say, the answer to your question is no.

Thanks. And last one, would you care to opine on what's been a bigger mix mover over the past few quarters between defending share at the low end versus the ebb in the higher value mix of projects in the marketplace?

Yes. I would say that as we looked at our price mix this particular quarter, it was approximately five points price mix, kind of the biggest number that we have seen there. But when we look at, it's hard to precisely analyze that. We think a little bit more of it is price and products substitution, but a big chunk of that is the fact that we are growing our Atrius-based luminaires in certain key channels. Now those are fantastic products. But the standard margin of those things because often they are going into large projects that have lots of the same type of luminaire, the standard margin on those is just different than what we historically experience on large commercial projects that have massive amounts of different types of luminaires. So as a percentage of our total revenues, these are just approximate numbers. The C&I channel has historically represented about 60% of our total sales. This quarter that number was probably more in the 56%, 57% of total sales. So there is a margin difference that we experience because again of the difference of products that we sell into that C&I channel mostly for larger projects. If I look at larger projects as we internally defined them, that was the primary reason for, if you will, the slight decline in overall C&I. So for us, that channel mix really played a big part and until we start to see, if you will, that larger project coming back and again I look at the census data, the last quarter or so has started to turn positive on construction put in place. That's all construction and not private nonresidential construction. And that usually is a leading indicator, six months down the road of positiveness on larger projects for Acuity. And we do well there because they are complicated, they require lots of support and we are really good at it. I am also very excited about the introduction or the expansion of our nLight capabilities. The wireless solution that was introduced is massively comprehensive and will be a huge, I believe, opportunity for us to grow that larger project business. But also primarily in the renovation side, we are starting to see a great deal of interest on larger renovation projects that are coupled with our nLight wireless capabilities. So we are optimistic about what that holds for us going forward.

Thank you.

Thank you. The next question comes from Joseph Osha with JMP Securities. You may go ahead.

Thank you and hello. I have got two for you. First I am wondering if we could dive a little more into how much of an impact materials cost have had in the quarter?

Ricky, do you want to get that?

Yes. We certainly have seen a bit of headwind in material costs largely around the commodity metals, steel, aluminum, both of which more from a secondary impact of the tariffs. We don't purchase that much steel that are directly impacted by the tariffs but we have seen steel cost go up regardless the U.S. manufactured steel. So we are seeing a bit of a pressure there. There is some electronic components that we are seeing a little bit of pressure on based on shortages that currently exist in those areas and would expect in the future to continue to see a bit of pressure based on the tariffs that the administration has announced, the 301 tariffs that will be on some of the China areas. We are looking at ways to mitigate that, both in cost reductions, price increases as well as sourcing from areas that aren't as impacted by the tariffs, but it has had an impact. We haven't exactly quantified it in the public announcements, but I would say it's not a material number, but it is putting some pressure on our margins.

Okay. Thanks Ricky. And then the second one for me would be, can we get some color in terms of what the uptake on this price hike that you announced back at LIGHTFAIR has been? How much of that would you say has stuck so far?

So Ricky, I mean just commenting on the impact to materials, completely agree, secondary impact rolling through. We announced our price increase on certain products certain, if you will, traditional fluorescent-based products but also certain LED products. Those price hikes on average were in the 6%-plus range. They were due to take effect, I think, June 11, I think was the date, some of that nature. So those are starting to roll through. We are seeing the benefits of some of that. Our expectation, because everyone coming into this space on these types of products is experiencing cost inflation. So I have some optimism that those price increases will stick into the marketplace. But it's absolutely too early to impact our results for Q3 and our expectations is that it will help offset some of these costs as we get into Q4 and beyond.

Okay. So just to be clear and then I will get off the phone here. So you would expect some of these price increases to start rolling through your numbers for the August quarter?

Yes.

All right. Thanks a lot.

Thank you. The next question comes from Tim Wojs with Baird. You may go ahead.

Hi guys. Good morning.

Good morning.

I just wanted to, on the home centers, could you just give us a little bit of an update of where you are in those two transitions from one customer to another? And just how that ties into the inventory? And will a lot of that product wind up shipping in the fourth quarter?

So to be extremely clear, we are not transitioning from one customer to another. We are expanding our access to a number of markets including the home center channel. And that's really important to draw the distinction to your question. The product portfolio of Contractor Select also supports not only the home center channel but it also supports the electrical distribution channel. So as we introduce the Contractor Select portfolio, as Ricky pointed out in answering the question on inventory, our expectation is that it will support growth in the home center channel as well as the C&I channel. Home center, for us, this quarter were up slightly after being down the previous two quarters. We still have tremendous opportunity in front of us to support our key partners in that channel as well as ED. So those folks will be seeing also new product introductions coming into their world and I would expect that, for us, in the home center channel it will be, like all of channels, an opportunity for growth.

Great. Okay. Yes, I know transition was probably a bad word. Sorry about that. Thanks for clarifying. And then second, just on the buybacks. You bought back some in Q2 and some in Q3 and now you have the expanded debt financing. Should we think that there is just a gradual buyback cadence that you guys will have? Or does the debt refinancing accelerate some of the stock buyback?

So Tim and to everyone out there, if you look at our organization over the last decade plus, we have done a really focused job of about a third of our cash flows repurchasing shares, about a third of our cash flows doing acquisitions, about a third of our cash flows doing both dividends as well as capital expenditures. If you look at the last quarter, we spent $160 million plus doing two really very interesting acquisitions for us. One expands some of our analytics in what we call our technology group really allowing us to do more Tier 4 capabilities. And then the other acquisition was really to solidify our position in emergency and power backup capabilities within the lighting industry. So we have solidified our leadership. Those are two good examples of how we are deploying capital to bring value to shareholders. In addition to that in the quarter, we spent near $300 million, I think Dan it was $298 million?

For the year-to-date.

Year-to-date, sorry. Excuse me on that. $298 million buying a couple million shares. But I believe that over the last five quarters, we have spent a little over $600 million purchasing 10% of our shares outstanding. So what we are doing is, we are looking at all of these alternatives on a longer-term basis. So Ricky and Dan expanded our credit facility to give us more flexibility because we do have authorization from the Board where we still have 5.2 million shares that we could purchase. So you are absolutely right. We are going to look at all of this as we have done over the last decade plus in a very strategic fashion. The M&A pipeline, Ricky and team continue to be busy seeing alternatives. So we are always looking for ways to deploy our financial strength in our balance sheet in ways that drive shareholder value.

Great. Well, good luck on the fourth quarter and then the next year.

Thank you.

Thank you. The next question comes from Rick Kwas with Wells Fargo Securities. You may go ahead.

Hi. Good morning. Just a couple of questions with regards to volume. Vern, was very significant benefit from volume with regards to getting out of the price increase? And then how would you characterize the benefit from Contractor Select at this point in terms of the current quarter on volume? How should we think about that in terms of the benefit on volume?

So I think that in the stock and flow smaller project world, our volumes were up. And so volumes were up. Some of that also has price and product substitutions as part of that. So net net, we were still positive in that portion of the market. When we look at what's happening with our Atrius-based luminaires to what we call our enterprise solutions group, those were favorable. Infrastructure and utility contributed. Again, as I said, most channels and geographies were favorable this quarter in terms of net sales dollars increase. So the unit volume and the sales volume was favorable in not just one area versus another. And then that would have been somewhat offset by the fact that larger projects were not there. We saw, again, a decline in that area. So I think we had a fantastic quarter from a value perspective. And if we had just been normal, if the market had been normal, sorry, on just larger projects, which again I am optimistic that those things will start to turn, we would have seen not only additional volume, less of an impact on price, less of an impact on mix and better margins. I was very pleased, by the way, Rick, to see our variable contribution margin on incremental sales sequentially from third quarter from second quarter. I think that's indicative of the current market conditions and our ability to, from the actions that we are taking to get variable contribution on those sales growth dollars.

Okay. So the Contractor Select as well as the price increase probably helped volume, but it sounds like that that benefit should, Contractor Select should benefit volume on a go forward basis. I mean it's not going to be --

Rich, I would say that it's more of a go forward type thing than a big impact on Q3. As Ricky points out, the big impact on Q3 from Contractor Select was just building up our inventories in anticipation of load-ins both in the home center channel as well as the electrical distribution channel which is meaningfully larger than jus the home center channel.

Okay. And then the price increase really is not affecting much on LED, correct? It's only small pieces of the LED portfolio?

Well, so imagine, again, what Contractor Select is meant to do, it's meant to have attractive price points but also have a better margin profile for us. So we are moving the cheese a little bit, right. Price increases are on existing products, we are actually introducing new products that have better margin profile. But on existing products, where we have increased prices that has been primarily for those luminaires that have high steel content and that is more primarily driven off of fluorescent base luminaries. The other thing that I would submit to you on price increases is the fact that 75% of our, if you will, lighting business is project-based. So it's always been a competitive business, not necessarily that we say here is a single widget at a price and oh by the way, we decreased the price some percentage. So I would say that the price impact or the impact of price increases is, it will have some impact but it will only be in that portion of our business that is subject to more stock and flow. And you will see more of that.

So that's 25% or so of the sales? Okay. All right. That's helpful. And then just one clarification. I think it was on Chris Glynn's question on the C&I, so you said usually it's about 60% of the business. This quarter it was 56% to 57%. Then you are differentiating Atrius on standard margin versus large projects, large commercial projects. Can you just run through that again? It wasn't clear to me what you were trying to get across with regards to the Atrius and then large C&I projects on the margin?

Well, okay. So if I look at our total business typically or historically, I should say, C&I has represented 60% of our total sales roughly and it fluctuates. This quarter, it was down probably for three to four points. So other portions or other channels, sales through other channels had a higher percentage. A higher percentage sale of portion was through what we call our enterprise solutions, which is primarily the sale of Atrius-based luminaries. And so those luminaires, because of where they are going, they are a lot of the same type of luminaires. So the standard margin at the gross profit level of those is typically less than what we would experience in larger projects, where we sell a much broader range of luminaires and those jobs in the large construction markets through C&I are usually very, very complicated. And so the ability to service them, to commission them, to do all of the things that are necessary, there is a higher, we typically extract a higher standard margin. But there is also higher cost to serve, which is a bit different than what we would experience maybe selling through large retailers for use in their facilities or at airports where you sell thousands of this exact same luminaire type and the cost to serve on those is typically not as significant as the cost to serve on large commercial projects.

Okay. That's helpful. Just a real quick clarification on that. I thought Atrius had more software content. So wouldn't that help the margin a bit versus your traditional large C&I projects?

So it would help the margin relative to large on our fluorescent type products in that particular channel. So the answer is, you have to look at it by channel and the opportunity to get higher margins because of it being Atrius-enabled and the higher margin is really the use of data off of that solution set, but it's compared it into that channel. We don't really compare one channel to another for what the margin profile is primarily because they are just so different. When you are selling thousand of the same fixture into a single location, it's very different than what you are selling 20 and 30 different luminaires into a similar size space. They are just different profile.

Right. Okay. That's helpful. Thanks. Have a great fourth.

Thank you. The next question comes from Jeffrey Sprague with Vertical Research Partners. You may go ahead.

Thank you. Good morning everyone. A couple for me. First, just on the Contractor Select. We have heard from some of your competitors that they plan to or are thinking about maybe pulling back a little bit from the low end to kind of address the margin pressures in the industry. I wonder if you are seeing that at all what the competitive response has been the what you are doing with Contractor Select, if anything is visible at this point?

No. We are not seeing our competitors, including our traditional competitors backing off, no.

And then on the inventory build in the quarter, would there have been an absorption benefit in your margins? And if so, how significant would that have been?

I would say there was a bit of it. Clearly we capitalized the conversion cost and so forth, as you would expect, but we had higher conversion costs because we had a lot more freight bringing the products in and then we source a lot more production, production exceeded sales and so forth. But the whole purpose of capitalizing that is to match it to then when the sale is but we did capitalize a lot more on the freight and the conversion cost. But then again, we expensed or incurred a lot more because we are bringing a lot more product in and producing a lot more as well. So it's designed to get the better matching so it should keep the margins consistent quarter-to-quarter, everything else equal.

Understood. And then just one last one. On the capacity moves, obviously understandable you need to take cost actions in this environment, but you are taking capacity out at a time that you are growing volume. I just wonder if you could give us a little bit of sense of the magnitude of the capacity reduction and if you are doing something different on sourcing or automation or some other element of your supply chain to kind of accomplish and to the balance that juggling act there.

Yes. So without providing absolute specifics, the ability to absorb one facility's, it was a smaller facility, it's productive capabilities, we had excess capacity or the capacity, if you will to absorb those into other locations driving efficiencies, driving connectivity around those products into the locations where they end up. So it's part of our lean process. We adopted lean manufacturing principles probably 15 years ago and our supply chain continues to really do an excellent job of driving productivity. So we took advantage of the opportunity to consolidate some of these things to help us improve our cost profile and our productivity to be competitive, more competitive and drive better financial results in the current environment that we find ourselves in.

And I would add, Jeff, that several of these facilities are not large manufacturing, as Vern said. It came about as part of these acquisitions that we did. So it's an opportunity for us to consolidate some of the recent acquisitions, facilities that we acquired to get greater efficiency than having a bunch of tiny facilities that came with some of the acquisitions.

Thank you. I appreciate the color.

Thank you. I would like to turn the call back over to Mr. Vernon Nagel for closing remarks.

Thank you everyone for your time this morning. Again, we strongly believe we are focusing on the right objectives, deploying the proper strategies and driving the organization to succeed in critical areas that have the potential over the longer-term to deliver strong returns for our key stakeholders. Again, get our future is bright and thank you for your support.

That concludes today's conference. Thank you all for participating. You may now disconnect.