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Watts Water Technologies Inc  (NYSE:WTS)
Q3 2018 Earnings Conference Call
Nov. 05, 2018, 9:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning, my name is Denise and I'll be your conference operator today. At this time, I'd like to welcome everyone to the Watts Water Q3 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions) Thank you, Tim MacPhee, Treasurer and VP of Investor Relations, you may begin your conference.

Timothy M. MacPhee -- Treasurer and Vice President of Investor Relations

Thank you and good morning everyone. Welcome to our third quarter 2018 earnings conference call. On the call with me today are Bob Pagano, President and CEO; and Shashank Patel, our CFO. Bob will provide his perspective on our third quarter results and the global markets. Before turning the call over to Shashank, he will review our results in more detail and offer our latest outlook for the remainder of 2018. Following our prepared remarks, we will address questions related to the information covered during our call. Today's webcast is accompanied by a presentation, which can be found in the investors section of our website. We will reference these slides throughout our prepared remarks.

Any reference to non-GAAP financial information is reconciled in the appendix of the presentation. Before we begin, I'd like to remind everyone that during the course of this call, we will be making comments that constitute forward-looking statements. These forward-looking 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.

Robert J. Pagano -- President & Chief Executive Officer

Thanks, Tim and good morning everyone. Please turn to slide three in the presentation where I'll provide an overview of the quarter. Overall, I was very pleased with our performance in the third quarter. The team again delivered a record quarterly performance in sales, adjusted operating margin and earnings per share. Organic sales grew at levels we have not seen in any quarter since 2007. Consistent with our first half performance that growth was led by the Americas. We also maintained the earnings momentum from the first half. Operating margin was an all-time record for Watts and adjusted EPS was a record for Q3 with another quarter of double-digit growth. These results reflect the continued execution of key strategic initiatives including our commitment to profitable growth, delivering customer value, and driving continuous improvement.

Given our strong performance, we're increasing our projected investment spending from $13 million to $15 million for the full-year. We spent approximately $5 million in the third quarter for investments, about $1 million more than was originally contemplated and we plan to increase our fourth quarter spend by an additional $1 million to $4 million. We are aggressively funding projects that we believe will help future growth and productivity.

Now let me make a few comments about the regions. In the Americas, we delivered double-digit organic sales growth driven by price and volume expansion in many of our key plumbing, drains, and boiler and water heater product lines. Looking at the end markets, US non-residential markets remained healthy. We see steady growth continuing, especially in the institutional vertical, which is our strength. US residential market indicators including permits, housing starts, remodeling activity, and higher interest rates all lead us to be a little more cautious regarding the residential end market going forward. Regarding the Americas inflationary costs, which include freight and raw materials, we have announced an additional price increase in the Americas that went into effect in mid-October to address the latest tariff increases. We will continue to gauge market reaction and address any further tariff adjustments as they get enacted.

In Europe, top line growth was relatively strong, but operating margin declined due to competitive pricing pressure, unfavorable sales mix, and incremental investments. As we announced in August, a restructuring action was initiated in Q3 to right size our cost structure. We took a restructuring charge to GAAP earnings in Q3 with some benefit realized in the quarter. We expect a payback from this effort of a little over one year. Shashank will provide more color in just a few moments. Recent European market forecasts predict overall economic growth easing over the next 12 months and we have seen a similar slowdown in residential and non-residential growth expectations in many of the regions we serve. So in general, we remain cautious regarding Europe.

In APMEA, we see a continued mixed bag, China's residential construction market has slowed. The commercial market also saw some softness this past quarter where we are seeing flattish end markets and competitive pricing. GDP in China is still solid, but trade concerns could impede the country's growth. Outside China, we see commercial markets broadly growing in the Middle East and Africa in other parts of Southeast Asia as a result of our geographic expansion strategy. During the third quarter, Asia-Pacific top line performance included double-digit growth outside China being partially offset by a double-digit sales decline in China.

Now I'd like to take a moment to inform you of an important development regarding our global drains platform. We're expanding our stainless steel drains manufacturing capabilities in two locations. First, we're investing in additional plant capacity for manufacturing and training at our Denmark location, which makes our BLUCHER branded stainless steel drain products and we invested in new equipment for our Fort Worth, Texas facility where we already have expertise working with stainless steel in making our PVI branded hot water heaters. We have already commenced production of BLUCHER stainless steel trench drains in Fort Worth for consumption in the North American market. The Denmark addition will be completed in mid-2019 and will support both European and global markets. These investments should drive a One Watts global solution and provides us the flexibility to meet customer delivery requirements in a project-based custom-driven marketplace, and the addition should aid in our future growth.

Finally, with two months remaining, we are confident in our ability to close the year on a positive note. Given our third quarter performance, we now expect to beat the sales growth outlook we provided back in August. At a consolidated level, we expect the second half top line growth should be in the 6% to 7% range with some puts and takes at the regional level. We now expect adjusted operating margin for the full-year should approximate 12.3%, marginally lower than our August outlook due to the incremental investments I mentioned earlier and additional corporate costs. This would be a record adjusted margin for the Company, and our goal for free cash flow is consistent to convert 100% of net income for the year. Now I'll turn the call over to Shashank to talk about our third quarter operating performance and provide more color on our fourth quarter outlook. Shashank?

Shashank?

Shashank Patel -- Chief Financial Officer

Thanks, Bob and good morning everyone. Please turn to slide four and we will discuss the third quarter results. Reported sales of $391 million, were up 7% driven by strong organic growth of 8%. Foreign exchange was a $3 million headwind or 1% during the quarter. The overdrive in organic growth as compared to our August outlook in the Americas and to a lesser extent in Europe was due to strength in underlying markets. As expected, the impact of product rationalization was minimal totaling about $1 million in the quarter or a 30 basis point headwind primarily in Europe. I will talk more about our regional performance in a few minutes. Adjusted operating profit was $50 million, an increase of 10%. This translated into an adjusted operating margin of 12.9%, up 30 basis points versus last year and an all-time record for the Company. We attained this margin while continuing to expand our investments in growth and productivity initiatives. Price, volume, productivity, and restructuring partially offset by higher commodity and logistics inflation were the main drivers of the record margin performance.

Adjusted earnings per share of $0.99 was a 24% improvement over last year and a new third quarter record for the Company. The earnings per share increase was driven equally by strong operational performance and benefits from lower below the line costs including a lower income tax charge and lower non-operating costs. Foreign exchange was a $0.01 headwind in the third quarter as compared to the same period last year. The effective tax rate in the quarter was 28.4%, 450 basis points below last year driven by the benefits of tax reform. Turning to cash, on a year-to-date basis, free cash flow was $43 million, a 25% decrease as compared to the same period last year. The decrease was mainly due to increased inventory build to support higher organic growth and to minimize the tariff impact, incremental tax payments due to new tax law changes, and additional capital spending. Historically, Q4 is a strong cash flow quarter for the Company and we expect that trend to continue this year as well.

As Bob mentioned, our goal is to attain 100% free cash flow conversion. During the third quarter, we repatriated approximately $11 million in cash. Year-to-date, we have repatriated about $121 million using a majority of that to pay down debt. In the third quarter, we purchased approximately 57,000 shares of our common stock at a cost of $4.7 million. Year-to-date, we've returned a total of approximately $37 million to shareholders in dividends and share repurchases as part of our balanced capital deployment strategy. To reiterate Bob's comments, we are pleased with our third quarter performance, setting new highs in sales, adjusted operating margin, and adjusted earnings per share while continuing to invest for the future.

Now to the regions, on slide five, let's review Americas results for the quarter. Sales of $263 million were up 10% both on a reported and organic basis. The strong organic growth was driven by strong price realization and broad volume increase in plumbing valves, drains, water quality and heating and hot water products. Geographically, both the US and Canada delivered a strong sales performance during the quarter. We are also seeing strong growth in Latin America albeit off a very small base. As we mentioned in August, the impact of the second quarter customer pre-buys ahead of the price increase approximated $4 million or about 2% of sales. Our best estimate of the third quarter pre-buy prior to the October price increase approximates $2 million. So on a net basis, sales were negatively impacted by about $2 million in the third quarter and the pre-buy should negatively impact Q4 Americas sales by approximately $2 million. Adjusted operating profit in the Americas was $45 million, an 11% increase year-over-year. Operating margin increased 20 basis points to 17.1%. The margin increase was driven by pricing, higher volume and productivity, which more than offset incremental growth investments, materials inflation and logistics costs. To summarize, a very good quarter for the Americas on both the sales and operating profit lines.

Moving to Europe, please turn to slide six. Sales of $112 million, were up 2% on a reported basis and up 4% organically. Foreign exchange, mainly the euro, was a headwind of about $2 million or 2% in the quarter. The sales increase was driven by solid growth within our drains platform and in electronics within the fluid solutions platform. Drains sales into marine applications continued strong partially due to project timing and electronics experienced strong OEM demand. We also saw strength in export markets. By geography, we saw strength in Germany, the Nordic, and Benelux regions. Germany was driven by drains products sold into the marine market along with better OEM and electronic demand. In the Nordic region, drains, OEM, and the wholesale channel drove stronger performance; and in Benelux, OEM and export sales all increased. Sales in France were slightly down, but flat excluding product rationalization. Finally, Italy volume was flat for the quarter. Adjusted operating profit for Europe in the quarter was approximately $13 million, an 8% (ph) decrease as compared to last year. Operating margin of 11.5%, decreased 130 basis points versus Q3 last year. The benefits of incremental volume, price, productivity and restructuring were more than offset by unfavorable sales mix, incremental investments, and higher commodity costs.

Regarding the Europe restructuring program that we discussed in August, we expect total costs to be approximately $5.4 million. In the third quarter for US GAAP reporting, we took a $4.4 million pre-tax charge primarily related to severance costs. We expect the remaining costs will be fully incurred within the next six to 12 months. Annual pre-tax savings are estimated at approximately $5 million. We expect to realize about $1.5 million in pre-tax savings in the second half of 2018 including about $500,000 already recognized in the third quarter and approximately $1 million of expected benefit in the fourth quarter with the balance in 2019. The program principally involves the right-sizing of personnel across various locations in Europe. The payback approximates 1.2 years (ph). Total restructuring expense noted in our income statement for the quarter was $3.4 million as we adjusted the accrual balances for previous restructuring programs. So for Europe, a solid top line with a weak operating margin performance. We are taking actions to minimize margin erosion, the restructuring, and other cost actions.

On slide seven, let's review APMEA's results. In the quarter, sales of approximately $17 million were flat on a reported basis and up 3% organically. Excluding product rationalization, organic sales were up 4%. This should be the final quarterly impact of product rationalization on APMEA. Q3 was a continuation of APMEA's first half performance with strong growth outside China offsetting weakness within China. Sales outside of China were up double-digits organically mainly driven by the Middle East and Africa, Australia, and Korea. China sales declined double-digits with weakness seen in both commercial valve products and residential underfloor heating products. Adjusted operating profit and adjusted operating margin were positively affected by a significant increase in intercompany volume, favorable country mix, additional productivity savings, and favorable foreign exchange offset partially by material inflation and incremental growth investments. In summary, a muted top line in APMEA during the quarter with solid growth outside of China and good profit drop through (ph) favorable intercompany volume and productivity.

Finally, turning to slide eight, I'd like to make a few comments on Q4. On a consolidated basis, we expect year-over-year fourth quarter organic sales growth should be in the range of 5% to 6%. Growth rate should decline sequentially in the Americas and Europe from Q3 while APMEA's growth should increase as compared to Q3. Product rationalization in the fourth quarter should be approximately $1 million and relates entirely to Europe. As mentioned, the expected sales impact of pre-buys in Q4 should be approximately $2 million. Adjusted operating margin in the fourth quarter should expand versus the prior year supported by volume growth, continued execution of our productivity and restructuring initiatives partially offset by higher inflation. We expect incremental growth investments of approximately $4 million in the fourth quarter versus last year, which is $1 million more than we had originally forecasted. We now anticipate total corporate costs in the quarter will approximate $12 million, an increase from our previous run rate due to incentive true-ups and the timing of other costs. Partially offsetting these margin headwinds are expected restructuring savings of $1 million in Europe. Adjusted operating margin of approximately 12.3% is expected for the full-year, a slight reduction from our last outlook driven by additional investment spending and incremental corporate costs. We are expecting strong cash flow generation in Q4, consistent with our performance over the past several years. We now estimate capital spend will range from $31 million to $34 million for the full-year. Our effective tax rate should approximate 28% in the fourth quarter. The FX impact should be negative as compared to the fourth quarter last year given current foreign exchange rates. With that, I'll turn the call back over to Bob before we begin Q&A. Bob?

Robert J. Pagano -- President & Chief Executive Officer

Thanks, Shashank. To summarize, the positive momentum from our many initiatives continued as we delivered another record quarter. We increased sales, expanded operating margin, and drove double-digit earnings growth while continuing to invest in new products and technologies and in new geographies. The investments will help drive our future performance in 2019 and beyond. So with that operator, please open the lines for questions.

Questions and Answers:

Operator

(Operator Instructions) Your first question comes from Nathan Jones with Stifel. Your line is open.

Nathan Jones -- Stifel -- Analyst

Good morning, everyone.

Robert J. Pagano -- President & Chief Executive Officer

Good morning, Nathan.

Nathan Jones -- Stifel -- Analyst

Just always got a couple of questions on the Europe market here. You guys have seen, this (ph) is Americas, first, you guys are seeing a tremendous ramp up in organic growth in the Americas this year, you've made a ton of investments to drive that growth. I think we can safely say that the underlying markets haven't ramped up like your revenue has, which would imply that you're taking some market share there, but the Europe growth has stayed pretty flat. Can you talk about the potential for you to start gaining some market share in Europe the way you have in the Americas. I know you're still doing some repairs in the European market, but maybe a year or two out, are we looking at a similar situation where all of these kind of investments could drive the same kind of outgrowth in Europe that you've seen this year in the Americas?

Robert J. Pagano -- President & Chief Executive Officer

Yes, so when we look at Europe, we've got to breakdown our businesses into two parts. A third of our business is electronics as well as drains business and as I said in my prepared remarks, we're expanding our drains capabilities in Europe. So we feel good about how we're performing in those two businesses in particular because we do -- those businesses are growing and we believe growing faster than the market. Regarding the other two-thirds of the business, that's a little bit more difficult because a third of that is OEM related and we're sometimes at the mercy of those OEMs at that point in time. So we are having additional new product developments in those sectors, but not as near as much as in those other markets. So those tend to follow more of a GDP growth markets inside of Europe. So we're investing more in the electronics and drains side and that's where we believe our growth is going to be.

Nathan Jones -- Stifel -- Analyst

Just sticking with Europe, you were plus 4% organically this quarter versus minus 2% in 2Q '18. Can you talk about geographically or by product what drove the turnaround there, you are still sounding pretty cautious on the Europe market, which I guess is typical for you Bob, but maybe just a little more color on what drove the increase and what -- where the caution is going forward?

Robert J. Pagano -- President & Chief Executive Officer

Yes, so we had nice growth, like I said in the electronics and the drains business, but we saw an OEM bounce back in the third quarter from our German business and if you really look at their Q3 performance and the Q2, it was basically flattish because we are negative in Q2 and our OEM margins are lower margins. So we saw that bounce back, but Italy was basically flat, Germany was up, so and France was basically flat. So again these markets are -- we're cautious and again when you look at some of the leading indicators, I still think there is caution out there. So you are correct, I am cautious because I want to make sure our spending is proper in those and then we right-size the business accordingly and with most of our focus in new product development is in the other two platforms of electronics and drains.

Nathan Jones -- Stifel -- Analyst

On the restructuring in Europe, should you be at that annual $5 million savings run rate by the end of '19?

Shashank Patel -- Chief Financial Officer

Yes, so as we said, I think in the second half of '18, its $1.5 million and then in '19, we'll see the full $5 million or close to the $5 million run rate.

Robert J. Pagano -- President & Chief Executive Officer

Yes, but that will be an incremental $3 million over 2018 savings, which shows (ph) about $2 million.

Nathan Jones -- Stifel -- Analyst

Got it. Thanks very much. I'll jump back in the queue.

Robert J. Pagano -- President & Chief Executive Officer

Thank you.

Operator

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

Jeffrey Hammond -- KeyBanc Capital Markets -- Analyst

Good morning, guys.

Robert J. Pagano -- President & Chief Executive Officer

Good morning.

Jeffrey Hammond -- KeyBanc Capital Markets -- Analyst

And so just, I mean it looks like we're getting some cross currents (ph) Europe, China, new res, just as you kind of look out in the '19, how do you think things shape up and just on the new res comment, are you just reacting to some of the macro data or are you actually seeing slowing that pace (ph).

Robert J. Pagano -- President & Chief Executive Officer

Yes, so '19 is a little early, Jeff. We're going through our operating plan reviews in the upcoming week. So we will inform you in February. Regarding residential, it's more about what we're hearing right now and I think we should break up our residential a little bit so everybody understands that. As you know, 60% of our business is commercial, 40% is residential, but when you break up that residential piece, two-thirds of that is multi-family and then a third is single-family homes and if you look at it, our exposure, 65% is repair and replacement. So if you look at single-family new construction, we're not significantly exposed, but we are cautious in hearing the same things that everybody else is reading about, but we are not depending on North America single resi expansion and new construction fully.

Jeffrey Hammond -- KeyBanc Capital Markets -- Analyst

Okay, great. And then Bob, on the latest price increase, does that include Section 301 List 3 and the 25% step up or do you have to contemplate additional pricing? And then just talk to me about any changes you're contemplating to your supply chain as a result of some of these tariffs?

Robert J. Pagano -- President & Chief Executive Officer

Yes, go ahead Shashank.

Shashank Patel -- Chief Financial Officer

Yes, on the price increases, and you're right, that's the third phase. Our price increase includes that and contemplates, as you know it was 10% that kicked in September and then there's another -- going up to 25% on Jan 1. That 25% is up in the air at the present moment, but our price increase contemplated those.

Robert J. Pagano -- President & Chief Executive Officer

Yes and from a supply chain point of view, we're actively working our suppliers based on the stronger dollar as well as looking in many other places including our North America capabilities of producing locally. As you know, we have our large foundry here in North America and we can produce more here.

Jeffrey Hammond -- KeyBanc Capital Markets -- Analyst

Okay, good. And then just one more, can you just talk about the market opportunity on the stainless drain market in North America. What's the size, what's the competitive landscape, how do you plan on kind of going to market and penetrating that opportunity? And I'll get back in queue.

Robert J. Pagano -- President & Chief Executive Officer

Yes, so it's a decent sized market. I'm not going to get into the market specifics, but what I would tell you is that market is primarily a lot of local players in the local regions that do customized stainless steel and we believe we have the ability leveraging our PVI facility that is an expert in stainless steel, welding and capabilities where we can automate that as well as standardize it for larger customers. So when we look at that opportunity, we've already -- we've been importing products from Denmark and we've done really well in the craft brewery market and we believe we can continue to expand beyond that, really with a food and beverage type focus on that market and there's other stuff in the lighter industrial, but our focus right now is more on the food and beverage as we ramp up. So again, we tested it by bringing stuff in from Denmark and now we're comfortable and we've been growing nicely in that. So we now are going to build local capabilities at our PVI facility.

Jeffrey Hammond -- KeyBanc Capital Markets -- Analyst

Okay, thanks, Bob.

Robert J. Pagano -- President & Chief Executive Officer

Thank you.

Operator

Your next question comes from Brian Lee with Goldman Sachs. Your line is open.

Brian Lee -- Goldman Sachs -- Analyst

Hey guys, good morning, thanks for the taking my questions.

Robert J. Pagano -- President & Chief Executive Officer

Good morning, Brian.

Brian Lee -- Goldman Sachs -- Analyst

Good morning, Bob, on the China slowing, this has been kind of a trend here for the past several quarters, you've called it out and I think this quarter seems to be a low watermark if I read into the double-digits relative to the way you've characterized it in the past few quarters. I know it's not a huge market for you, but can you level set us a bit on where your exposure stands there now and how you're thinking about this, is this somewhat share related or is this broader weakness and then just maybe the outlook for some recovery there?

Robert J. Pagano -- President & Chief Executive Officer

Yes, so when you look inside of our China business, first of all, our APMEA business is about 60% outside of China and 40% inside of China. So when I first started, we were 90% in China and I felt we were too exposed to China. So our strategy has been to expand outside of China given the political things that are happening in China and we want to be careful as well as its lower margins inside of China. So when you look at it, you then have to break the market down by two different pieces. The first piece is the residential piece, which is really the underfloor heating and we talked I think several quarters ago how there was a shift from individuals purchasing to more of a contractor purchasing for the whole building and that shift is handled or it has changed, which has really changed our market because it's very low margin in some of that. So we've really -- we're in it, but we're in it, let's call it on the high-end of that marketplace versus let's call it the average. So that's competitive and by definition, we would be losing market share, but when I'm looking at profitable growth, that's really the focus. The commercial side of that business is more lumpy. That's project related. We had a lot of data centers and we saw some competition start to buy some jobs in the quarter. So again, we try to remain disciplined in that area, it's still a focus for us. Our teams are focused on growing that market and we believe -- we'll probably see something similar in Q4, maybe a little more growth in or less of a decrease out of China and then -- or flattish somewhere in that range, but we will be up mid-single digits to high, low, somewhere in the 5% to 7% we believe in APMEA in that region. Again, our focus is on profitable growth and we're finding more profitable growth outside of China.

Brian Lee -- Goldman Sachs -- Analyst

Okay, great, that's helpful. Second question was just on everyone's topic these days price cost. Just how should we be thinking about the trend here going forward? Are we sort of seeing peak realization or do you think there is a more of a spread you can capture here. And then I guess, how should we be thinking about the operating margins in that context. I know you've down ticked them about 10 (ph) basis points on the year, but that seems to be related more to your own investments as opposed to the price cost dynamic, but if you could speak for that a bit? Thank you.

Robert J. Pagano -- President & Chief Executive Officer

Yes, Brian, I think the price cost, we've seen a lot of inflation, tariffs have been minimal. I think really when you will see the tariff impact to us based on our inventory turns is really heading into next year. So we've been proud that we've been in front of this thing, getting price in advance and that's why we've invested more, again to set us up to grow for the future. So we believe between our price, our supply chain and our productivity, that's allowed us to stay in front of this thing and that's why we're increasing our investments. So that's been the focus. I think when you look at price now, I think you'll probably see more price as some of these 301 tariffs start hitting and everybody increasing price, but I think as you get into next year, you're going to lap some of those bigger price increases that everybody saw in Q3 and Q4 of this year.

Brian Lee -- Goldman Sachs -- Analyst

Okay, fair enough. And then maybe one last housekeeping one, I might have missed this, but there was some other income of around $900,000 in the quarter, could you elaborate on what that was and if that line item persists into the future?

Shashank Patel -- Chief Financial Officer

I think the bulk of it is FX. So as we saw with the Chinese currency getting lower, almost at the 6.9 (ph) level. So we had a favorable foreign exchange that happened in the quarter. We had a similar situation in the second quarter on foreign exchange from a transaction perspective, but it's primarily driven by the Chinese currency.

Brian Lee -- Goldman Sachs -- Analyst

Okay, thank you.

Robert J. Pagano -- President & Chief Executive Officer

Thank you.

Operator

Your next question comes from Joseph Giordano with Cowen & Company. Your line is open.

Robin Strong -- Cowen & Company -- Analyst

Hey, good morning, this is Robin (ph) for Joe. I just wondered if you could give us some color about your distributor inventory levels and how much steam you see left in the North American commercial market in terms of growth? Thank you.

Robert J. Pagano -- President & Chief Executive Officer

Yes, so from a channel perspective, I think it's healthy. I think it's probably slightly above average as the channel buys in front of this inflationary tariff environment. However, I also believe the commercial market based on our backlog, our quotation activity, as well as our discussions with our field that it is still pretty decent out there. So we feel good about the commercial market heading into 2019 and the teams are going to get more than our fair share of that business.

Robin Strong -- Cowen & Company -- Analyst

Great, thank you.

Operator

(Operator Instructions). Your next question comes from Walter Liptak from Seaport Global. Your line is open.

Walter Liptak -- Seaport Global -- Analyst

Hi, good morning, guys.

Shashank Patel -- Chief Financial Officer

Good morning.

Robert J. Pagano -- President & Chief Executive Officer

Good morning.

Walter Liptak -- Seaport Global -- Analyst

Wanted to ask about volumes versus price and maybe to think about the Americas, in the quarter, how much did price contribute to that the 10% organic?

Robert J. Pagano -- President & Chief Executive Officer

A little over 3%, Walt.

Walter Liptak -- Seaport Global -- Analyst

Okay, all right, and then turning to just some follow-ups on Europe. The cautious comments that you made, I wonder if as you went through the quarter, there were things that changed. I know third quarter tends to have some longer holidays and things, but I wonder if there is something in the Europe numbers that cause you to think a little bit more carefully about how the trend would look in the fourth quarter?

Robert J. Pagano -- President & Chief Executive Officer

Yes, so the way we looked at it, in the third quarter -- or in the second quarter of Europe, we were down a couple of percent, so we're up 4% and then if you look at last year, our fourth quarter for Europe was up 5%. So we got a difficult compare next year so that's why we're thinking modest growth in the fourth quarter. So that's how we're framing, Walt.

Walter Liptak -- Seaport Global -- Analyst

Okay, great. And kind of along the same lines with China during the quarter, were you able to see a month-on-month change in China?

Robert J. Pagano -- President & Chief Executive Officer

Again, China, the residential market has been soft, its continued to be soft. So no real change there, maybe a little bit of an uptick. The commercial market is very project oriented and lumpy and sensitive. So again it's hard to see any trend there. We do believe there is spending on the commercial side of that market and our teams are focused on that, but again our focus is on profitable growth, but we're not going to go after projects that lose money, so that's clearly our focus.

Walter Liptak -- Seaport Global -- Analyst

Okay, it makes sense. Okay, thank you.

Robert J. Pagano -- President & Chief Executive Officer

Thank you.

Operator

Your next question comes from Mike Halloran with Baird. Your line is open.

Michael Halloran -- Robert W. Baird Co. -- Analyst

Good morning, guys.

Robert J. Pagano -- President & Chief Executive Officer

Good morning, Mike. (multiple speakers).

Michael Halloran -- Robert W. Baird Co. -- Analyst

So two clarifications -- well, one clarification, one question. First clarification just on the China and the APMEA growth rate that you're expecting fourth quarter, was that 5% to 7% all an organic number or was that inclusive of an FX number that you threw out there, Bob?

Shashank Patel -- Chief Financial Officer

It was organic.

Michael Halloran -- Robert W. Baird Co. -- Analyst

Okay and then second, could you just help right-size where those APMEA margins are tracking. Obviously, it grew strong (ph) in this quarter, that can move around quite a bit depending on intercompany transfers and other factors. How should we think about that for the fourth quarter and then what's a good run rate to think about for next year?

Shashank Patel -- Chief Financial Officer

Yes, the APMEA margins in the third quarter as you saw we had a very solid third quarter and that was driven by higher intercompany volumes. So we did some buys ahead of the tariffs. That helped drive productivity in our factory in China as well as some transfer pricing margins, which aren't that significant, quite frankly, and then we had some foreign exchange favorability. So what happens in the fourth quarter is -- as long as the FX rates hold up, we'll still get the foreign exchange favorability, but the intercompany volume does come down in the fourth quarter versus the third quarter. So still healthy margins in the fourth quarter, but slightly lower than the third quarter on a sequential basis.

Michael Halloran -- Robert W. Baird Co. -- Analyst

Great, thank you for the time. Appreciate it.

Shashank Patel -- Chief Financial Officer

Thank you.

Robert J. Pagano -- President & Chief Executive Officer

Thanks, Mike.

Operator

And there are no more further questions queued up. At this time, I turn the call back over to Bob Pagano for final comments.

Robert J. Pagano -- President & Chief Executive Officer

Okay, thank you for taking the time to join us today for our third quarter earnings call and we appreciate your continued interest in Watts. We look forward to speaking with you again at our fourth quarter call in February. Thanks, again.

Operator

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

Duration: 38 minutes

Call participants:

Timothy M. MacPhee -- Treasurer and Vice President of Investor Relations

Robert J. Pagano -- President & Chief Executive Officer

Shashank Patel -- Chief Financial Officer

Nathan Jones -- Stifel -- Analyst

Jeffrey Hammond -- KeyBanc Capital Markets -- Analyst

Brian Lee -- Goldman Sachs -- Analyst

Robin Strong -- Cowen & Company -- Analyst

Walter Liptak -- Seaport Global -- Analyst

Michael Halloran -- Robert W. Baird Co. -- Analyst

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