Sherwin Williams (SHW) beat 1Q18 sales and profit expectations, but unexpectedly reduced 2018 consolidated earnings guidance from $19.05 to $18.65 reflecting new investments in an expanded partnership with Lowe’s. SHW expects to recoup the entire $0.40 2018 EPS impact in 2019, noting that the incremental investment would be accretive to sales and profits next year. Excluding the new investment, SHW effectively reiterated 2018 guidance and noted the potential to increase guidance later this year depending on how paint season shapes up. The first quarter is generally a smaller quarter seasonally and SHW typically prefers to wait until mid-year before adjusting guidance. SHW has made substantial progress on integrating the Valspar acquisition and remains on track to create substantial shareholder value with meaningful long-term growth prospects. Northlake continues to expect SHW to move toward $450-$500 in the coming years as earnings per share climb toward $25 by 2020.

SHW is increasingly confident in the ability to capture $385-$415 million in annual cost savings related to the Valspar acquisition, while most of the one-time costs to achieve these ongoing savings will be booked in 2018. Further, SHW noted the potential for incremental revenue synergies. June 2018 will mark the anniversary of the Valspar acquisition, potentially allowing SHW to begin simplifying the consolidated financial results and paint a cleaner picture of the long-term growth potential.

Both the Americas and Consumer Brands segments performed well in 1Q18. The Americas segment benefitted from strong sales volumes driven by an ongoing shift from “do it yourself” to “do it for me” paint jobs. The Consumer Brands segment benefitted from price increases that offset rising costs in raw materials SHW uses to create paint products. The Performance Coatings segment underperformed, as this segment is furthest behind on Valspar integration and faces the highest raw material inflation due to more complex material inputs. Notably, Valspar was one price hike cycle behind SHW when acquired, and SHW intends to close this price gap throughout 2018. Raw material inflation headwinds are expected to ease in the second half of 2018 as comparisons to the prior year normalize.

In summary, Northlake continues to expect SHW will climb toward $450-$500 as investors become more confident in the long-term growth potential. SHW will continue to benefit from the still strong housing and remodeling environment while it completes the integration of Valspar. As we approach the anniversary of this acquisition in June, the benefits should start to become more apparent in the consolidated financial results. By the end of 2018, SHW will have substantially reduced debt, allowing a renewed focus on investing in growth and returning capital to shareholders.

SHW is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake’s regulatory filings can be found at www.sec.gov.  SHW is a net long position in the Entermedia Funds.  Steve is portfolio manager and managing partner of Entermedia, long/short equity hedge funds focused on media, entertainment, leisure, communications, and related technologies.