Good morning. My name is Mariama, and I will be your conference operator today. At this time, I would like to welcome everyone to the Watts Water Technologies First Quarter 2018 Earnings Conference Call. [Operator Instructions] I would now like to turn the call over to Tim MacPhee, Treasurer and VP Investor Relations. You may begin your conference.

Thank you, and good morning, everyone. Welcome to our First Quarter 2018 Earnings Conference Call. With me today is Bob Pagano, CEO and President. Bob will provide his perspective on our first quarter results, offer some color on the markets, discuss tariff implications and update you on the CFO search. I will provide a detailed review of our first quarter results and revisit our full year outlook. Following our prepared remarks, we will address questions related to the information covered during the call. Today's webcast is accompanied by a presentation, which can be found in the Investor Relations section of our website. We will reference these slides throughout our prepared remarks. For purposes of today's call, all references to key performance metrics will be on an adjusted basis, unless otherwise indicated and non-GAAP financial information and metrics have been reconciled and are included in the appendix section of the presentation. Before we begin, I'd like to remind everyone that during the course of this call, we will be making certain comments that constitute forward-looking statements. These statements are subject to numerous risks and uncertainties that could cause actual results to differ materially. For information concerning these risks and uncertainties, see Watts' publicly available filings with the SEC. The company disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. Let me now turn the call over to Bob Pagano.

Thanks, Tim, and good morning, everyone. Please turn to Slide 3 and let me briefly provide a rundown of the first quarter. We started 2018 on a strong note, delivering record Q1 sales, operating margin and EPS. Organic sales growth trended favorably with all regions contributing. We expanded adjusted operating margin by 50 basis points, and adjusted EPS increased by 26% in the quarter. Our operating financial performance is the result of executing on our strategy of delivering profitable top line growth and driving productivity and cost discipline in the organization, while continuing to invest for the future. Regionally, sales growth was mainly in line with our internal expectations. The Americas had broad growth in a number of product lines, aided in part by favorable comps versus Q1 last year, especially in our boiler business. Europe delivered a solid top line, which was slightly above our forecast and was driven by Drains project timing. Asia-Pacific's growth was consistent with our internal forecast given the anticipated product rationalization headwind during the quarter. Tim will review the quarter's results in more detail in a few minutes. The end-markets are performing in line with our expectations. In the Americas, much of the nonresidential construction data remains positive with anticipated tailwinds in certain key nonresidential verticals. Residential new construction data is a little lumpy, but repair and replacement indicators are healthy, and we believe in total, the residential market should continue to grow at a moderate pace for the year. Europe continues to show signs of modest growth, although, some recent macrodata is signaling some softness. Asia-Pacific markets are growing at moderate levels. We continue to monitor the potential impact that tariff regulations may have on our input cost. We believe this issue mainly affects U.S. purchases. China-imposed tariffs are not currently impacting our…

Thanks, Bob. I am on Slide 4, which shows the first quarter's comparative results. Sales of $379 million were up 9% on a reported basis in a first quarter record for Watts. Organically, sales were up 4% with growth in all regions. Foreign exchange, primarily driven by a stronger euro, increased year-over-year sales by roughly $17 million or 5%. Product rationalization, as expected, was approximately $2 million or a 60 basis points headwind in the quarter. Adjusted operating profit increased 14% to $44 million. Adjusted operating margin of 11.6% was up 50 basis points and represents a Q1 record. Volume, price and productivity more than offset $2 million of growth investment and inflationary pressures from commodities and transportation cost. Foreign exchange contributed about $2 million or 5% of the profit increase year-to-year. Adjusted EPS of $0.82 increased 26% over last year, and was another first quarter record for Watts. The increase was driven by operational improvements of 11%, a favorable tax rate of 9% and favorable FX movements of 6% as compared to last year. The effective tax rate of 28.2% is about 500 basis points lower than Q1 last year, and relates primarily to the benefits of tax reform. Turning to cash; as you know, historically, Q1 is a slower period for cash flow, and that played out as expected. Our free cash outflow for the quarter was $33 million as compared to a $15 million outflow in Q1 last year. The majority of the incremental outflow relates to timing of working capital outlays, in particular inventory incentive payments. Important to note, while the first quarter is seasonally slow, we fully expect our cash generation to improve as the year progresses, and to achieve greater than 100% cash flow conversion for the year. During the quarter, we repatriated approximately…

Thanks, Tim. I'd like to summarize before we address your questions. The year started out on a positive note. We delivered Q1 record results in sales, operating margin and adjusted EPS, and we continued to seed plant for the future. We are also proactively addressing inflationary concerns. Overall, we expect to make sustained progress and look forward to another solid year of profitable growth. So with that, operator, please open the line for questions.

[Operator Instructions] Your first question comes from Nathan Jones with Stifel.

Bob, I'd just like to start off talking a little bit about price cost, given all of the inflation that's out there in the market at the moment. You said you've announced price increases, implemented it at the start of 3Q. Does that mean that may be you're a little bit behind on price cost in the first half of the year, you catch up in the second half of the year and margins expanded kind of in line with what you were looking for in the first quarter? Did you make that up somewhere else? Just any color you can give us around that.

Sure, Nathan. We believe we've been ahead of the curve. And as you know, we announced the price increase in fourth quarter of last year. And we've been staying on top of it. As we see the inflationary pressures continuing to mount, we believe we'll continue to be ahead of the game. So net-net, it's been positive for us through Q1. And we expect that to be -- continue to be positive for the rest of the year.

You also had commented in the press release and a little bit in Tim's comments there that you had a negative impact for mix in the quarter. Any color you can give us on that? And expectations of how mix plays out in 2Q and beyond?

Yes, so I think, overall, mix will play out fine as we go through the year. There's a couple of mix issues we had during the quarter. Number one, in Europe. Drains was better than we expected. We had a project we thought was going to ship in Q2. It shipped in Q1. And it was more in, what we call the Marine business, which is -- it's project related and it was lower margin than normal. So that should even itself out in Q2. In the North America side, we talked about mix also, and that was really we had some nice retail growth in North America with some small wins in stocking levels in the first quarter. Again, that should smooth itself out into the second quarter. So again, small mix issues, but not a significant impact, probably 10 or 20 basis points plus or minus, so in the quarter. But that should clean itself up as we go into the second and third quarter.

Then just on cash flow; it was a little worse seasonally than it usually is. It doesn't sound like you guys think that's any more than timing. Can you just talk about when we get that back, and any expectations you have for growth maybe inhibiting cash flow a little bit this year or anything like that?

Yes. Well, certainly it was a little less than last year. But as we look at it progressing through the year, we still believe we'll convert at 100% of net income. Certainly, with growth we'll have some working capital concerns here. But again, we believe we'll mitigate that through our operational excellence initiatives. So I think it's a timing issue. Some of it's ramp-up for some growth initiatives that we have, and we want to get in front of the curve on this. And given tariffs and future inflation, we felt it was better to be in front of this with our inventory than behind it. So net-net, it will smooth itself out probably by the third quarter, we should be back in alignment with where we normally are.

Okay. So a little bit of buying ahead of anticipated price increases from you there?

A little bit. It's -- a lot of little pieces here, Nathan. It's not overall one thing, it's between growth initiatives, some maybe pre-buys, some normal timing. You had Good Friday. I mean there's just a lot of moving pieces here, but nothing that we're worried about.

Your next question comes from Ryan Connors with Boenning & Scattergood.

Tim, you might have addressed this. But I apologize if I missed it. But the 4% organic growth. Did you give a breakdown of the proportion of that from volume versus the price increases that you've already achieved there?

We didn't -- this is Bob. We didn't give that detail. But we had about 1 percentage point of price in the quarter. So the rest was normal growth.

Got it. Okay, that's good. And then my other one. You called out water quality as a tailwind in the Americas. Is that the residential water treatment business, the premier business, or is it that something else? What exactly is that product line?

Yes, I think -- yes, that's exactly what it is. It's on the residential side. We had some nice wins in the quarter, and again that business is lumpy. So -- but a good early start with the team.

Got it. And then last one from me, just on the capital deployment side; you mentioned the buyback dividends, it seems like there's a bit of a shift there towards returning cash to shareholders. Is that a -- should we read into that the -- I mean, you don't like what you see in the M&A side, whether it be from valuation or just the stuff that you're seeing, or is that really too much in that. How do you see the M&A pipeline?

Yes, I think it's reading a little bit into that. I mean I think our dividends and share repurchases have been consistent. We believe in an overall balance capital deployment model. Certainly, we continue to look in the M&A pipeline and cultivate potential acquisitions, but as you said, there are some higher multiples out there. We're going to be disciplined and do the right thing for our shareholders.

Your next question comes from Jeff Hammond with KeyBanc Capital Markets.

This is Brad [ph] filling in for Jeff. Just in Americas, look like some nice growth there. Could you just provide maybe a bit more detail on the growth investments? And update any impact on the first quarter? And if not, when you expect to see some yield there?

Yes, I mean our growth investments definitely had an impact in the quarter and for the whole company. We continue to invest in new products. Certainly, they do cannibalize existing products in some regards. But between our geographical expansion and our strategic accounts and our new product initiatives, we're seeing the impact on our growth, and you're seeing the impact with our results. This is the largest growth we've had since my tenure here in four years, and we're starting to see the impact of many of the initiatives that we started over four years ago as we look to continue to upgrade our products and rationalize them and continue to invest for the future.

And then just on -- back on price cost. Seems like pushing through a mid-year increase. What's your confidence around the market's ability to absorb that based on what you're seeing so far from the increase back in 4Q?

Yes, I think everybody understands inflation, in particular with the transportation cost, everybody is seeing it. And I believe the market is anticipating it. We've read about many companies in our industry and outside of our industry doing the same thing. So we're going to be in front of the curve on this. We're going to be aggressive, and we believe it's the right thing to do given the cost inflation that's out there.

Your next question comes from Brian Lee with Goldman Sachs.

Maybe first off, it could just be rounding or conservatism, but if we assume the Americas division grows at the 5% organic rate through the rest of the year, then it seems like 4% organic in 2018 on a consolidated basis versus the 3% that you're sticking with is pretty achievable, how would you characterize that read?

Well, when you look at it, our full year guidance is 3% to 5%. And I think in my stated comments that we're moving towards the higher-end of that range. So again, I think it's too early in the first quarter to change the range given all the geopolitical things that are going on. But we certainly are cautiously optimistic and believe we'll be at the higher-end of that range. So again, too early to change all the numbers, but we're, like I said, feeling cautiously optimistic.

Fair enough. Second question from me and then I'll pass it on is, on the Heating and Hot Water side, good growth there in the quarter. I know you mentioned it was easier comps. Can you discern a bit between how much of it was easier comps? And then just the underlying trends improving, maybe if you could speak to what you're seeing there, and also with respect to pricing dynamics which I know have been an issue for that segment in the past?

Yes. So first of all, it's very competitive in that marketplace. But what we are seeing is our backlogs are strong and it was easier comps, but we're also seeing the growth in the market. So even net of that, it was very positive. So again, the AERCO team is doing a good job. Our new products and the things we're doing are -- we feel good about. So overall, very positive, and with the backlog and what we're seeing in the market, we feel good about it.

Your next question comes from Joe Giordano with Cowen.

This is Tristan [ph] in for Joe. Can you maybe address what you're currently seeing in the Chinese housing and in commercial markets? And how do you expect this to evolve during the rest of the year?

Yes. So the Chinese housing market, there's been a shift in the marketplace. In the past, consumers would fit out their apartments and put in their under floor heating, et cetera. And that would -- really was strong in the retail channel. Based on new guidelines and recommendations, that now is moving to more of a project-base and the condominiums are fitted out by the developer. So less of a retail play and more of a, let's call it, a commercial builder play. So that shift is, as you can imagine, is becoming much more competitive. And pricing and is less about the retail side. So we're seeing a shift there, that's going to be probably impact us. But the Chinese market is a big market in many areas. We're doing good on our valve side, and in particular within the data center space as well as the chip manufacturer. So again, it's a shift in the marketplace. We'll be watching it. And we'll look at moving more outside of that space because of the competitive nature of it. We're still playing it, but we're going to continue to grow in another areas.

That's helpful. And then, I believe you mentioned in the past that Drains are a leading indicator for your commercial growth. Is that what you're seeing in Europe currently?

We are. Again, the European market with our specialty Drains, BLÜCHER, which are stainless steel drains, we've seen a nice pick up there. A lot of it is based on our strategic account focus as well as our focus overall. So we do see, that is a leading indicator. I would say it's more for a leading indicator in North America. I believe we're gaining share in Europe.

So and one last quick one, if I can. What percentage of your PVI sales are international at this point?

It's a very low number. It's a very low number, but it's also an opportunity for us. The increased freight cost always is difficult when you look at PVI, because you're shipping big components with a lot of air in them, I would say. So the cost of transportation is a key part of that. However, we believe we have one of the best commercial boilers in the marketplace, or in water heaters. So both of those -- you do have some companies that want to pay that extra amount for that. So -- but again, it's a small percentage and growing. We've had some wins in Latin America, which is a little closer to us. But we believe it's an opportunity for continued growth.

There are no further questions at this time. I will now turn the call back over to Bob Pagano for final comments.

Well, thanks everyone for joining us today. We look forward to speaking with you on our Q2 results in early August. Thank you very much.

This concludes today's conference call. You may now disconnect.