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A.O Smith Corporation (AOS)

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A. O. Smith Corp. (AOS)

Q1 2017 Results Earnings Conference Call

April 27, 2017, 10:00 AM ET

Executives

Patricia Ackerman - VP, IR & Treasurer

Ajita Rajendra - Chairman & CEO

John Kita - CFO

Analysts

Charley Brady - SunTrust Robinson

Jeffrey Hammond - KeyBanc

Scott Graham - BMO Capital Markets

James Giannakouros - Oppenheimer

Bhupender Bohra - Jeffries

Matt Summerville - Alembic Global Advisors

Robert McCarthy - Stifel

David MacGregor - Longbow Research

Ryan Connors - Boenning & Scattergood

Presentation

Operator

Good day, ladies and gentlemen, and welcome to the A. O. Smith Corporation First Quarter 2017 Earnings Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. [Operator Instructions] As a reminder, this conference is being recorded.

I would now like to introduce your host for today's conference, Patricia Ackerman, Vice President, Investor Relations and Treasurer for A. O. Smith. Ma'am, you may begin.

Patricia Ackerman

Thank you, James, and welcome, everyone, to our first quarter 2017 Earnings Call.

Before we begin with Ajita's remarks, I would like to remind you that some of the comments that will be made during this conference call, including answers to your questions, will constitute forward-looking statements. These forward-looking statements are subject to risks that could cause actual results to be materially different. Those risks include, among others, matters that we have described in this morning’s press release.

Also, as a courtesy to others in the question queue, please limit yourself to one question and one follow-up per turn. If you have multiple questions, please rejoin the queue.

I will now turn the call over to Ajita Rajendra, Chairman and Chief Executive Officer of A. O. Smith, who will begin his remarks on Slide 3.

Ajita Rajendra

Thank you, Pat, and good morning, ladies and gentlemen. A. O. Smith's solid performance in the first quarter set record for sales and earnings. We continue to see strong growth in our consumer products in China and our water heater end markets in the U. S. were very positive.

Here are a few highlights; sales grew 16% to a record of $740 million. Excluding the impact from the strengthening U.S. dollar against the Chinese currency, our sales grew 18% in the quarter. China sales are up 27% in local currency. Amongst several revenue growth drivers, A. O. Smith branded water treatment sales grew over 50% in local currency, and air purification products grew over 80%.

Net earnings of $0.50 per share were 22% higher than our earnings per share in 2016. We continue to review our capital allocation and dedicate a portion of our cash to return to shareholders.

During the first quarter, we repurchased approximately 608,000 shares for $30 million. We announced a 17% increase to our dividend earlier this year. The five year compound annual growth rate of our dividend is over 25%.

John will now describe our results in more detail, beginning with Slide 4.

John Kita

Sales for the first quarter of $740 million were 16% higher than the previous year. Net earnings in the first quarter of $88 million increased 19% from 2016, and first quarter earnings per share of $0.50 increased $0.09 compared to 2016. Sales in our North America segment of $47 million increased 15% compared with the first quarter of 2016.

The increase in sales was primarily due to higher volumes of residential and commercial water heaters in the U. S. and Canada, and pricing actions in August 2016 related to significant steel cost increases and inflationary pressure on other costs. Aquasana, acquired in August of 2016, added $10 million to our North American segment sales.

Rest of world segment sales of $260 million increased 19% compared with 2016. China sales increased 27%, in local currency, driven by higher demand for our consumer products in the region, led by water treatment and air purification products, as well as the pre-buy in advance of a price increase related to steel and other cost inflation.

On Slide 6, North America operating earnings of $104 million were 13% higher than segment operating earnings in the year-ago quarter. The favorable impact from higher sales of water heaters in North America and the pricing action and the U.S., were partially offset by higher steel and other input costs. The operating margins of the newly acquired Aquasana business, is lower than the segment average and explain the overall margin decline for the segment in the first quarter.

Rest of World operating earnings of $33 million improved 21% compared with 2016. Higher China sales were partially offset by increased selling, general and administrative expenses in China. Higher selling cost and advertising costs to support growth were the primary drivers of higher segment SG&A expenses. Currency translations reduced China earnings by approximately $2 million compared with the prior year. The China price increase had a minimal impact to earnings in the first quarter.

First quarter segment operating margin was essentially the same as one year ago. Our corporate expenses were higher in the first quarter compared with the year ago period, due to higher spending in our Corporate Technology Center.

Our effective income tax rate in the first quarter of 2017 was 27.2%, which was lower than the 29% experienced during the first quarter last year. The first quarter 2017 rate was lower than 2016, primarily due to a larger benefit associated with stock-based compensation and a change in geographic earnings mix. The lower effective tax rate, compared with the effective rate a year ago, benefited 2017 results by $0.01 per share.

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