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Knoll Inc  (NYSE:KNL)
Q4 2018 Earnings Conference Call
Feb. 07, 2019, 10:00 a.m. ET

Contents:

Prepared Remarks:

Operator

Good morning, everyone and welcome to the Knoll Inc. Fourth Quarter 2018 Conference Call. This call is being recorded. This call is also being webcast. Presentation slides accompany the webcast.

In addition, this call may offer statements that are forward-looking, including without limitation, statements regarding those future outlook for the industry and economy and expectations with respect to future leverage. These forward-looking statements are based largely on the company's expectations and are subject to a number of risks and uncertainties, certain of which are beyond the company's control. Actual results may differ materially from the forward-looking statements as a result of many factors, including the factors and risks identified and described in the Knoll's Annual Report on Form 10-K and its other filings with the Securities and Exchange Commission.

The call today will also include references to non-GAAP financial measures. Reconciliations of these measures to the most comparable GAAP financial measures are included in the presentation slides that will accompany the webcast.

Now let me turn the call over to Andrew Cogan, the Chairman and CEO of Knoll. Thank you.

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Thank you, operator. Good morning, everyone and welcome to our yearend 2018 earnings call. We ended our 80th anniversary year on a strong note as we delivered a record quarter of shipments in a record year of sales with 120 basis points of adjusted EBITDA margin improvement and the strongest adjusted EPS performance of the year.

For the full year, we delivered sales of just over $1.3 billion, an increase of 15% versus prior year and an organic increase excluding c of just over $83 million, a very strong 7.4% increase. Our office segment grew by 8.2% and lifestyle by 26.9% or 6% organically. Total workplace sales, which as you recall, include lifestyle products sold into workplace settings grew by 13% significantly exceeding the 4.7% reported by BISMA and lifestyle sales for the full year represented a record 40% share of our revenues and 63% of our adjusted EBITDA.

While organic growth slowed in the fourth quarter, workplace growth remained a strong 10% and we entered 2019 with backlog up double digits as orders growth rates exceeded shipment growth rates in Q4. Adjusted EBITDA of $176.5 increased $32 million or 22% versus prior year and adjusted EPS including the benefit of a lower tax rate increased by 30% from $1.42 to $1.85. Our brand proposition that good modern design has a meaningful impact on the quality wellbeing, productivity and happiness of the way people live and work remains as relevant today as it did back when Hans and Florence founded Knoll in 1938.

In fact, today we argue that the value of our constellation of design-driven brands is more relevant than ever, is the boundaries between how we live and work, the environments in which we live and work and the range of generations that live and work come closer together than ever before. It's proof I see when I walk in December of our most dynamic fine environments and observed products like the Cesca chair designed 80 plus years ago, cohabiting in a beautiful and functional way with designs of ours like Rockwell Unscripted that were just introduced in 2017 and it's backed up by a growth rate meaningfully greater than that of the markets in which we play, the resin virtualization of the workplace and the blending of products that accompanying it is frankly an environment tailor-made for Knoll.

And the evidence of our growing relevance is in the record number of clients and dollars spent on Knoll designs this past year and the fact that we were able to monetize that interest to generate both improved and industry-leading levels of profitability, particularly in the year what external forces challenged our margins like never before, but it's a lot more than the products and culture that have helped thrive over the past eight years and that's a 3,541 associates at Knoll around the world some of whom have been with us for over 45 years like Jain Rozanski, who leads our Knoll studio supply chain, to those at Muuto, who just joined us this past year and make these great results possible. I want to first thank all our people for their commitment to our mission and results and then our dealer partners, architect and design enthusiasts and clients, that come to Knoll to allow us the privilege of helping shape the environment where they live and work.

This morning, I'll let Charles walk you through the year-end results more specifically and want to instead use my time with you to focus on a few key topics. A year into the Muuto acquisition, the results to date have validate the thesis, upon which we base the acquisition. Namely, we could drive the sales of Muuto's fresh perspective on Danish design through our North America workplace distribution and A&D and client relationships to fill a significant void in our ancillary offerings to both grow Muuto and increase our share in these more social and collaborative areas of today's workplace and that we could do so at 20% plus level of adjusted EBITDA margins, while simultaneously funding the investments in rolling out the business in North America.

Over the course of the year as we've established a deep inventory of Muuto products in North America, trained our sellers and dealers on how to position Muuto and introduced Muuto to our installed base clients, we've seen Muuto's momentum accelerate. In Q4, orders grew at the fastest rate of the year, just a smidge shy of 50% and we entered 2019 at Muuto with a backlog up 40% versus prior year. This marked a meaningful improvement over the full-year orders growth rate of a not-too-shabby 23%.

While Muuto continues to perform well outside of North America too our investments in additional product sales resources, local supply chain and channels is just beginning to impact the business. And we have tremendous wide space and the consumer fast residential market, both here in North America and elsewhere that is in the 10s of millions of dollars that we intend to target as we complete the foundational workplace and contract investments.

Since, the closing of the Muuto acquisition, we've reduced the debt we took on to acquire Muuto by over $80 million and combined with our improved results across the constellation, we ended the year with a leverage ratio of 2.64 to 1, down from 3.12 to 1 at the end of Q1 '18. We've clearly seen acquisitions that we can move through both our contract and residential distribution channels deliver compelling returns and strengthen our position in the marketplace.

2018 was a terrific year for DatesWeiser as we grew the business by 46% and achieved positive EBITDA results. We can now meet the needs of our clients for meeting conference spaces that in the past we saw others captured. Like Muuto, DatesWeiser, enters 2019 with the significant increase in backlog compared to a bit where they were this time a year ago and they are now a regular part of our constellation story.

Even a relatively small acquisition of the unparalleled Vladimir Kagan business back in 2016 through HOLLY HUNT turned out to be a goldmine. Not only have we more than doubled Kagan sales as we've leveraged HOLLY's network, but we've done so in among the highest levels of profitability of anything we produced at Knoll.

In fact, not only did we have record years at Muuto, DatesWeiser, and Vladimir Kagan, but past acquisitions like HOLLY HUNT and Spinneybeck, FilzFelt also delivered record results as these business leverage the power of the reorganization of our expanded North America constellation sales team and marketing strategies and execute against their own individual growth plans. Our European business also enjoyed record sales and profits as did KnollStudio.

In fact globally, our flagship and iconic KnollStudio collection set sales records as workplace clients demonstrate new interest and blending our iconic design into contemporary workplaces while we simultaneously drove broader efforts to sell into consumer and residential markets through our existing partners and new Knoll shopping LA and the new expanded trade presence in Europe with our first time participation last month in the Cologne Furniture Fair.

As we look into the new year, we are watching to see whether weakness in housing in general overall stock market volatility and uncertainty in Europe impacts our more residential and consumer-facing businesses. Similarly, we are tuned to the potential impact of trade wars, global government dysfunction and economic uncertainty on our office business. However, we are heartened that on the workplace side, the funnel of dollars in project count remains nicely up heading into 2019.

Our portfolio is increasingly relevant for collaborative and social/hospitality workplaces and the successful integration last year of our KnollStudio and office workplace sales teams and resources should only continuing to yield benefits in 2019. Investments in higher performing, well priced ergonomics seating and desk continues to drive well above average growth in the office segment, new product platforms like Rockwell Unscripted continue to perform strongly with sales more than doubling in 2018. And we believe our efforts to capture a greater share of our client spend and share of our dealer sales, as we expand our ancillary collections and capabilities is just beginning to bear fruit.

Today, the share of sales from new workplace design exceeds that we get from our legacy platforms and we have exciting new product initiatives to deepen our capability across the Board, coming to the market in the year ahead. I would expect all of the above to help us continue to deliver better than BIFMA topline workplace performance in 2019 as we gain share in underpenetrated ancillary spaces.

Given uncertainty around potential additional inflation and ultimate tariff levels, it's hard to give -- it's harder to give specific margin guidance for the year. Nevertheless, our goal remains unchanged. Namely, to consistently deliver 15% adjusted EBITDA margins with a target of at least 50 basis points of annual improvement on that journey.

We aim to do so through a broad spend of initiatives. These range from organic initiatives to expand the sales and breadth of our high margin lifestyle portfolio, acquisitions of margin accretive businesses like Muuto, new product development efforts that lead to above-average margin products like Rockwell Unscripted, initiatives to gain share of higher-margin ancillary spaces in the workplace to actions on both the (inaudible) fixed-site to improve our cost position, increase our efficiencies and better leverage our showrooms and sales resources.

In 2018, in the combination of efforts like these that the 50 bps of adjusted gross margin improvement, despite above average commodity and transportation inflation and 80 bps of adjusted EBITDA margin expansion from 12.8% to 13.6%. I'm particularly pleased that in the back half of the year, we averaged adjusted EBITDA margins of 14.3%, closer to our goal of our 15%.

To inoculate ourselves against the uncertain cost environment, we have decided to implement our third price increase in the past 18 months this coming March. Our supply chain reinvention efforts and continuous improvement efforts, continue to yield positive near term results. And we have an exciting roadmap for the years ahead to the leaner and more efficient Knoll as we reduce excess capacity, prune older less profitable designs and better leverage our global supply chains.

We continue to invest aggressively to position our brand and businesses for success in the years beyond 2019. While, in the short term, these investments pressure SG&A and CapEx spending, we believe they have a potential to help us continue to deliver better than industry topline growth and superior levels of profitability and shareholder returns.

In 2019, these include the opening of a new flagship constellation showroom and living lab outside the merchandise mart in Chicago. As we leave the usual suspects behind, we feel this base will make a compelling case for why Knoll and why Knoll now? We are making significant web investments at both HOLLY HUNT and Muuto to enable those businesses to develop more contemporary, broader, deeper and stickier client engagements and the office side our investments in 21st century specification tools will materially shorten and simplify the specification process, while improving our ability to share real time visual simulations and renderings with our clients on the fly.

We're also looking at adding dedicated constellation sales resources into our greatest opportunity dealers to accelerate our share gains and ancillary growth. The next phase of our 1-Knoll ERP implementation, including the sales and order management module will go live in Q2 and the team has done outstanding work to prepare for this important milestone, which will have significant productivity and ease of doing business benefits in the years ahead and last but certainly not least, as we enter the new year with the strongest team of leaders, I've had the privilege of working with. These folks are super dedicated to our vision for Knoll and delivering to our shareholders, the level of superior performance you've come to expect from us. Charles?

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

Thank you, Andrew. Since Andrew covered the yearend review pretty thoroughly, I'll give details on the fourth quarter results as well as some additional commentary.

Net sales in the fourth quarter for Knoll Inc increased $38.5 million or 12.2% from a year ago. Adjusted gross margin in the fourth quarter was 37.4% compared to 35.5% in 2017. The margin expansion was primarily due to growth of the higher margin lifestyle segment sales as a percentage of total Knoll, Inc. sales and whereas we experienced positive volume growth, price realization and positive continuous improvement contributions to margin, these were largely offset by transportation and materials inflation versus the prior year.

Adjusted gross margin excludes a $0.7 million seeding product discontinuation charge from the disposal of inventory and fixed assets related to the discontinued products. Total adjusted operating expenses in the fourth quarter were $93.2 million compared to $80.3 million in 2017. The increase was due primarily to incremental operating expenses from Muuto, as well as increased investments in warehouse and showroom costs, which we believe will create a stronger foundation for continued growth.

Adjusted operating expenses exclude $2.5 million of amortization of intangible assets related to our acquisitions of the Muuto, DatesWeiser, HOLLY HUNT and Edelman businesses and acquisition-related expenses of $1 million. Acquisition related expenses include retention agreements for key Muuto employees and other customary acquisition costs.

Adjusted EBITDA for the fourth quarter of 2018 was $50.4 million, up from $41 million for the fourth quarter of 2017. The increase in adjusted EBITDA was due primarily to the inclusion of three months of Muuto operations, higher sales volume and the lifestyle segment and net price realization in both the office and lifestyle segments.

The adjusted EBITDA margin increased to 14.2% in the fourth quarter of 2018 from 13% in 2017. The increase in adjusted EBITDA margin was due primarily to gross margin improvement as lifestyle sales represent a larger percentage of total Knoll Inc. sales. Interest expense was up $3.1 million from a year ago, due primarily to increased debt levels as a result of the Muuto acquisition and higher interest rates.

The company's effective tax rate for the fourth quarter of 2018 was 23.3% down from 39.2% in the fourth quarter of 2017. The 39.2% rate in Q4 2017 is exclusive of the one-time impact of the Tax Cuts and Jobs Act also known to tax reform where the company recognized a one-time tax benefit of $26.6 million from the remeasurement of net deferred tax liabilities at the new corporate income tax rate of 21%.

The significantly lower effective tax rate in the fourth quarter of 2018 was primarily due to the passage of tax reform in December of 2017. The tax rate was also affected by the mix of pre-tax income and the varying effective tax rates in the countries and states in which we operate.

Adjusted net earnings for the fourth quarter of 2018 were $28.2 million, up from $18.1 million for the same period in 2017. Adjusted net earnings is exclusive of the tax affected net earnings adjustments that were previously discussed totaling $3.7 million that were related to a seating product discontinuation charge, amortization from acquisitions, acquisition-related expenses and a pension settlement charge. Adjusted diluted earnings per share were $0.57 and $0.37 for the fourth quarter of 2018 and 2017 respectively.

Capital expenditures for the quarter were $19 million compared to $11.2 million for the fourth quarter of 2017. Capital expenditures related primarily to our information technology infrastructure, manufacturing equipment and several investments. Regarding our balance sheet and cash flow, cash and cash equivalents were approximately $1.6 million at the end of the quarter and our outstanding debt balance was reduced to approximately $461 million. We finished the quarter with a leverage ratio of 2.64 times. Operating activities provided $44.5 million of cash in the quarter compared to $44.3 million in the prior year.

Total cash used in financing activities was $20.1 million. We used cash in financing activities during the fourth quarter of 2018 to pay down $15 million of debt and quarterly dividends of $7.2 million. Consistent with past quarters, we used excess cash generated from operating activities to invest in the business, pay dividends and reduce outstanding debt. For the full year 2018, cash flow from operations was $108.2 million compared to $103.7 million in 2017. Capital expenditures for full year 2018 were $40.3 million compared to $40.6 million in 2017 and our full year 2018 effective tax rate was 25.4% down from 31.8% for 2017, exclusive of the one-time tax reform benefit in 2017.

As we move into 2019 and further to the comments that Andrew made previously. I'd like to make a few points around interest and taxes. We entered into a forward interest rate swap arrangement at the beginning of 2018 with $300 million of variable rate LIBOR-based debt being swapped for a fixed LIBOR rate, starting on January 1, 2019. The swap arrangement will be in effect until the maturity of the current credit agreement in early 2023 and the swap amount will reduce by $50 million each year. During 2019 approximately 50% of our average debt will be covered by this interest rate swap. We expect our average interest rate to be approximately 3.8%. In addition, we expect our full year effective tax rate to be between 25% and 26%. We expect to use our available cash for investments in the business, the payment of dividends, and the repayment of outstanding debt.

Thank you. We'll now take any questions.

Questions and Answers:

Operator

Thank you. (Operator Instructions) Our first question comes from the line of Budd Bugatch with Raymond James, your line is now open.

Budd Bugatch -- Raymond James -- Analyst

Good morning, Andrew. Good morning, Charles. Congratulations on the year and the quarter.

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Thanks, Budd.

Budd Bugatch -- Raymond James -- Analyst

I've a couple of questions if I could. Muuto I think the sales in the fourth quarter were set at $26.8 million and I know you talked about the programs that you are getting in the states or in North America. Can you quantify how much of that's in the US versus or in the North America versus overseas?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

The fastest growing I'm not going to break it down specifically, but what I can tell you is the fastest growing part of the business Budd is in North America and in North America we're growing the business four, five times a month versus what they were doing a year ago. So it is scaling very rapidly and very significantly and I'm encouraged even just in January we saw 50% orders growth across Muuto around the world and we saw something like 300%, 400% growth in North America.

So it is scaling meaningfully and very much consistent with what we expected when we acquired the business, but it's encouraging to see it accelerate every quarter that we've owned the business.

Budd Bugatch -- Raymond James -- Analyst

So would it be fair to think maybe 20% of that is North America, trying to think down a little bit?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

I think probably, yeah I think probably 20% 25% if you want a round number.

Budd Bugatch -- Raymond James -- Analyst

Okay. And what about the order rate in the quarter versus the $26 million or $27 million that you post. How does that look?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

It looks greater.

Budd Bugatch -- Raymond James -- Analyst

But want to quantify that a little bit?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

I think all I can quantify is the order's growth rate in the quarter grew just under 50%, which was significantly greater than the shipment growth for the business. So the momentum. I think to takeaway Budd is the momentum is accelerating with Muuto.

Budd Bugatch -- Raymond James -- Analyst

Okay and in the lifestyle then outside of Muuto lifestyle grew I think 9.8, just under $10 million elsewhere. You said DatesWeiser had a good quarter, it was pretty small at the beginning. Can you kind of quantify where the growth in lifestyle outside of Muuto came from?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Sure. I think KnollStudio was certainly a stand out for the quarter. We had real success in leveraging kind of these our iconic studio designs into contemporary workplaces and so, there are several studio programs now. So I'm really encouraged by the acceleration of studios performance as we end the year. So studio certainly was a standout when we look at the business you then I think followed by DatesWeiser. HOLLY HUNT also had a very good fourth quarter of growth versus prior year.

And again as I mentioned the Vladimir Kagan business has just exploded as we've moved it through HOLLY's channel and they in January, Kagan set a record for order. So we've almost tripled that business now and those margins are the highest of anything we do at Knoll. So we're pretty broad based. It was not just Muuto, it was Studio, it was HOLLY HUNT. We've seen some stabilization in coverings, Filzfelt doing well. So I'd say it's pretty broad based Budd.

Budd Bugatch -- Raymond James -- Analyst

Any disappointments in lifestyle that's not there?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Not particularly. There's always work to do. We continue to push hard on moving other product products through the Edelman distribution channel. We think there's opportunity there to do more, but in general, I mean, you look at lifestyle outperforming any of BIFMA data, you look at our total workplace number outperforming any of the BIFMA data both on a quarterly and a full year basis, and you look at the orders momentum in the key initiatives and key product categories and it's all I think quite encouraging.

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

Okay. Office margins, that one area it looks like was challenged and you talked a bit about pressures there. Can you talk about what your, I would imagine you're pressured by raw materials mostly in Office, but maybe you'll give us some color as to what happened in office and what the outlook is?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Charles?

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

Yes, sure, Budd. So, yes, to your point we had a significant amount of inflation this year, year-over-year, which was offset largely by our price increases and some volume absorption as well as a lot of the CI activities we've talked about in the past. So we had good pull through there and then good mix with the help of Lifestyle coming through as well. So going forward when you look at 2019, we still expect to see some year-over-at-year inflation in both materials and transportation, mainly weighted toward the first half of 2019 and then we've also layered in some additional CI activities for 2019 we're hoping to offset. As Andrew mentioned previously, we have another price increases set to go into effect in March, which should help offset as well. On a basis point comparison basis, we might expect to see 50 to 100 basis points of inflation throughout the year in 2019. Again probably weighted to the first half of 2019 and then to offset that with the price increases we're looking for maybe 50 basis points of offset there. And then targeting 100 basis points of continuous improvements in cost saving activities.

Budd Bugatch -- Raymond James -- Analyst

So, if I read that right Charles than first half we'll have our difficult comparison margin-wise in the office segment. Is that the way to think about it and then perhaps picking that up in the second half.

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

I think that's right.

Budd Bugatch -- Raymond James -- Analyst

Okay. And add backs, I'm little bit confused in add backs. What are you looking at in 2019 for the non-GAAP adjustments for add backs, particularly as it affects EPS but also as it affects EBITDA.

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

Sure. The recurring add backs that we'll probably have going forward obviously, acquisition-related expenses, we've begun to add back amortization related to the acquisitions, most of the people in the industry are doing it now.

Budd Bugatch -- Raymond James -- Analyst

And it looks like it was $2.5 million in the quarter, is that right?

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

It was about $1 million in the quarter for acquisition-related expenses. And then G&A in total was $9.1 million, which is inclusive of some of the acquisitions as well.

Budd Bugatch -- Raymond James -- Analyst

No the acquisition I think was $3.5 million as it affected pre-tax for EPS calculations. It looks like on the call, it was $1 million as affecting adjusted EBITDA. And then the balance was that amortization was in D&A right? I would have to be $2.5 million to be for the amortization.

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

That's right.

Budd Bugatch -- Raymond James -- Analyst

So that's continuing, is it going to be $3.5 million each quarter, how do we think about it for 2019

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

It will likely be fairly consistent next year. Some of the intangible assets starts to wind down over some period of time. But next year it will likely be fairly consistent.

Budd Bugatch -- Raymond James -- Analyst

Okay. And at the end of '19, what do you think debt will be at the end of '19? You paid off $80 million this year, where do you think you'll get debt to by the end of 2019?

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

We think we can pay down another $50 million to $60 million and I think the goal is to get it down to the low 2-times range.

Budd Bugatch -- Raymond James -- Analyst

Okay. And you wrote off $700,000 or $900,000 or in, $700,000 in the quarter in a seating product inventory, what product did you continue in, Andrew?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

By the way it was just a general seating discontinuations. We're doing some pruning of our seating line. We've also as you know, announced a discontinuation of the Morrison system come the middle of this year. Again, all of these moves are part of kind of freeing up space in these from a manufacturing standpoint. So we focus on the highest margin, most productive use of those spaces.

Budd Bugatch -- Raymond James -- Analyst

Which are much seating in March.

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

We are seating in that in the whole moving building, which is where we do both Morrison and seating. We're clearing up room. We have new products coming on, we have the (inaudible) chair ramping up. We have a really innovative high performance there that we hope to bring to market around NeoCon. So there's a lot of rearranging going on and these moves are all part of that kind of multiyear roadmap that we completed in the fourth quarter.

Budd Bugatch -- Raymond James -- Analyst

And to that point, most of the gains and CI come to the manufactures who you gain space as you go on the lean journey. Is there any note in the system that looks like it's ready to come out? How much space have you gained by some of your lean journies?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

No, again, I think as we've talked about in the past, the challenge over the last year or two of the lean stuff has been you pickup 3,000 square feet here and 5,000 square feet there, but they're not necessarily contiguous or they're right through the network. And so at some point, you get to a point of critical mass where you can make a step level change and right now, we believe in '20 and 2021, we will be at that point.

So in the interim, there is still a bunch of kind of smaller moves and I would describe it more like a Rubik's cube of work that ultimately again in '20 and '21 will lead to a significant fixed cost reduction.

Budd Bugatch -- Raymond James -- Analyst

I understand. And my last question is CapEx expectation in '19. What do you expect to -- and depreciation?

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

Sure. So from a CapEx perspective, so in '18, we had about $40 million of CapEx. We would expect that to go up a little bit to $45 million to $50 million in 2019, that increase is driven primarily by a one-time cash outlay related to an investment in our flagship showroom in the pull market in Chicago, which Andrew talked about during his comments.

CapEx spend is broken down but 25% CI maintenance, 30% in distribution activities, including showroom activities, 15% product development, 30% IT-related projects. We do have, as Andrew mentioned, the next phase of order management going live with the ERP. So you have maybe a little bit more depreciation there next year, but relatively consistent otherwise.

Budd Bugatch -- Raymond James -- Analyst

So depreciation consistent with this year, you think?

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

Correct.

Budd Bugatch -- Raymond James -- Analyst

Okay, thank you very much. Good luck on the year.

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

Thanks Budd.

Operator

Thank you. Our next question comes from the line of Greg Burns with Sidoti. Your line is now open.

Greg Burns -- Sidoti & Company -- Analyst

Hi. Good morning. When you look at your product portfolio and you're kind of taking this platform approach and adding maybe subscale brands to your platform and leveraging your infrastructure, is there any -- product portfolio that you feel need to be strengthened or areas that maybe you're not in that you potentially get into?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Well, thanks. Greg, for the question. I think there is a lot of wide space for us to continue to leverage this whole constellation selling approach. So first it starts organically with just strengthening the core portfolio and we've built in 3, 4 years, $100 million adjustable table business. So, I mean there are organic areas where we see in the individual area of the workplace the idea of higher performing products. We had a very strong year in seating. Then we have some real innovations coming to market later this year. We've done a very major, we think of storage in the workplace and what that should be look like and will start to roll that out.

So our first focus is on the organic areas and the individual areas and we're doing a lot of work there. Then as we rollout toward these more ancillary and more commercial areas where we have significant share opportunity, we're doing that both with organic product development, I mean KnollStudio continues to expand very strong rapidly growing line of conference and meeting tables that has been really well received and then we spike it with an acquisition like Muuto, which gives us a significant and critical math, in those areas that we can leverage though our sales and distribution network, which is what we're doing. And then Muuto gives us another R&D capabilities, so you will see the middle of this year a significant increase in the scope and relevance of Muuto products, particularly as it relates to contract ancillary environment. So we can layer into that. There's more light incoming.

So we have a lot of more architectural products coming with our in areas they deal with providing and creating acoustic individual privacy and then open planned environment.

So I think we have a lot to do and then we're always looking at other acquisitions that we can add in the bolt-on. I think one of the unique things about Knoll and our track record is we have an exceptionally strong track record of integrating acquisitions that leverage our distribution and client relations, our strong dealer relations, and our installed base that scaled out rapidly and we've done that.

We still sell -- we've done that with Muuto, we've done that with DatesWeiser, HOLLY HUNT with Vladimir Kagan, very strong ROI, very strong accretion and that's very much another leg of that strategy. So I think we're attacking that ancillary space in multiple ways and we do see a lot more wide space to go after. But I'm not going to give it all away on this call Greg.

Greg Burns -- Sidoti & Company -- Analyst

Okay. Great, thanks. And then looking at Muuto in the residential opportunity there domestically, what's the timeframe that you look at pivoting and expanding in that direction and what kind of investments, incremental investments do you need to make to go after that segment of the market with Muuto in North America?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

So our strategy. Muuto clearly is a brand with millennial resonance with its new perspective on changing this design. But what we have unique about Muuto was the contract quality of their products and we've seen others try to do similar things. the products just don't have the contract quality or the durability. So we know it's Muuto. Let's first focus on maximizing that contract capability and so that's where we've been investing in terms of warehouse, in terms of localizing some of the manufacturing in terms of some of the IT work and the training and really that's where the investment and really this year that's where the focus investment training, hiring is really dedicated.

At the same time, we're starting to do some of the foundational, I'd say really more IT-related investment because the products are multi-channel, omnichannel can work office and residential. We're starting to do that foundational work this year such that I would imagine by the middle of '20, to the end of '20, we will be able to do a major Muuto residential/consumer launch, both online and in store sometime in mid '20 to mid '21 and that's basically the timing there. Again that opportunities is worth '10s and millions of dollars.

Greg Burns -- Sidoti & Company -- Analyst

Okay, great. Thank you.

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

So that's our thinking on Muuto.

Operator

Thank you. (Operator Instructions) Our next question comes from the line of Matt McCall with Seaport Global Securities. Your line is now open.

Matt McCall -- Seaport Global Securities -- Analyst

Thank you. Good morning, everybody.

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Hey Matt.

Matt McCall -- Seaport Global Securities -- Analyst

So to start, Charles with you, you gave some good detail around some of the components of Office margins, I think you talked about inflation expectations, C&I savings or CI savings and then the expectation of price increases. What about the impact of mix leverage from volume growth. I was just trying to get a bigger picture -- the full picture on what you expect from office margins in 2019 and really beyond?

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

I think that's probably part of the price expectations that we had. So I consider price mix to be combined together to the extent obviously, we get more leverage there will be a boost to that, but kind of goes up and down.

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

You know Matt, the other thing that will help us a little bit as new products continue to exceed legacy, margins on new are a few hundred basis points higher than on legacy. So I do think mix will be helpful. As we move through the year. But again, I think, Charles is right there, a lot of moving pieces. So I don't think we want to get too granular in the guidance we give here.

Matt McCall -- Seaport Global Securities -- Analyst

Okay, that's fair. So maybe I'll move over to Lifestyle. So, the way I've always thought about it was that segment had pretty consistently high and consistent margins because of the variable cost of nature of the cost structures. As you see more of that product sold into the workplace and I assume through your more traditional channels, is there any risk that the pricing model has to change? And do you see more pressure from discounting things like that as you see more workplace products sold through Lifestyle?

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

We don't. I mean we're very disciplined in how we price those. Maybe occasionally, you will do a little bit of something with a client where you're bundling. You'll give them a little bit extra if you bundle a whole package together but in general, that's not a tremendous margin hit.

There is some additional dealer incentives for them driving -- they are total share of Knoll and our ability to capture the totality of our client spend and the dealer spend, but I think in general, I don't expect a lot of margin volatility. Those are primarily asset-light outsourced businesses where we don't have a lot of fixed cost exposure.

Matt McCall -- Seaport Global Securities -- Analyst

Okay. Okay. So when you say not a lot of margin volatility, what's the right level? Is it plus or minus both at EBITDA, is it plus or minus 22% plus or minus 41%. I mean it was a little bit about of improvement through the year, I assume that's as Muuto later became a bigger piece of the pie, is mix likely the biggest opportunity as we move forward and maybe it inches higher from here is 22% the right number?

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

I think mix is the biggest opportunity there. You're absolutely right. And I think we're super happy with 22% EBITDA margins in this category. But like everything else, each of our businesses has targets to do better in the coming year than they did in the past year, all of them has continuous improvement efforts, all of them have cost areas of focus.

I think the only thing I would say in Lifestyle is and improve as it relates to Muuto there is incremental investment as we're driving this kind of rapid level of growth. So I don't expect a ton of EBITDA margin improvement for the next I'd say two or three years from the strong levels they are at today because we're really funneling that back in, in terms of growth initiatives.

Matt McCall -- Seaport Global Securities -- Analyst

From the level that you did reported in Q4?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Yes. From the level we just reported in Q4. I don't think it gets works. But I think you're not going to get the kind of leverage. If we weren't in a growth mindset with Muuto, we certainly could be backing off a lot of the investments we're making, but we're riding a wave and we want to ride it harder.

Matt McCall -- Seaport Global Securities -- Analyst

Okay. And I guess probably I should add this with the Office question, but you talked about the significant cost reduction in '20 and '21. I think Charles we've discussed some step function or some expectations on an annual basis over the next few years. Can you give us an update on what the outlook is from a dollars perspective for those cost reductions in '19, '20 and '21?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Well, listen, I think its Charles, that we're talking about 100 basis points of continuous improvement opportunities so you dollarize that in terms of CI, and I think that's kind of a recurring level. And then I think as we do look at '21, '20, '20 into '21 I think in terms of a step level change, you could probably double that number on an annual basis as we make some of those larger -- as we pursue some of those larger opportunities. So if $13 million is kind of the continuous CI rate, you may have an equal amount of that in a more step level kind of move down the road, is how I think about it.

Matt McCall -- Seaport Global Securities -- Analyst

Okay. And then the final question I had, you talked about leverage coming down. Can you talk about the targets where you hope to get by maybe the end of this year and what your ultimate new year goal is?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

We're super comfortable. Leverage in the 2% and 2.5% range is super comfortable for us. It allows us to pay a robust dividend. We generate a lot of free cash. We have all the CapEx we need to invest in the business organically. We have ample liquidity to do transformational acquisitions to the extent we uncover those. So we feel pretty unconstrained with leverage where it is and interest rates are all still relatively low, we throw off a tremendous amount of free cash. So I don't think there is much need to go that much lower than when we are and then you will look at what that most efficient use of our of our free cash at that point is.

Greg Burns -- Sidoti & Company -- Analyst

Okay . Thank you, Andrew.

Operator

Thank you. Our next question comes from the line of Steven Ramsey with Thompson Research Group. Your line is now open.

Brian Biros -- Thompson Research Group -- Analyst

Hi, good morning, This is Brian Biros on for Steven. Thanks for taking my questions. I want start with the Lifestyle business, strong organic growth in the quarter, but was there any impact from maybe housing uncertainty or volatility in the equities markets that may play into how Q4 shaped up or outlook for 2019 at all is there any connection between those?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Well, I mean, not a lot. As I did say in my comments, probably some of our higher-end businesses take a HOLLY HUNT or something like that, probably had some exposure at the top of the residential market and probably some psyche around the stock market has some impact in terms of consumer spending there. But I have to say, we really haven't seen much evidence of any negative impact at this point.

Brian Biros -- Thompson Research Group -- Analyst

Got you. Anything continue in the 2019, no real negative impact at the moment, given what we know now?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Given what we know now, but obviously, I don't have a crystal ball. So we'll see how it plays out.

Brian Biros -- Thompson Research Group -- Analyst

And then on the Office side, if you just maybe describe the discounting environment in the Office space right now, I know it's a competitive market, but do you really think about I guess, competing with discounts given the inflation and tariff environment that we're in also?

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

Well, I think the good news is everyone we are competing against has all those problems as well. In fact, we're probably a little bit less exposed from both the tariff and metal commodity standpoint. So, I don't see a lot of impact from that.

And then frankly from a mixed standpoint is we focus more on these ancillary social and hospitality areas those are all margin accretive for us. So that improves with the profitability of every client engagement we have where we can sell them more of those products. So I don't see any major changes there.

Brian Biros -- Thompson Research Group -- Analyst

Got you. And one last one on price increases. Looking back in 2018, is there anything with the benefit of hindsight that you might have done differently with the price increases either in timing or magnitude or just the way it's delivered or anything might have done different and you could think about implementing that in 2019?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Sure. Well, I mean, it was in retrospect if we had known that they would be carved that there would be the kind of protectionism that we saw we would have done more sooner. So I guess, but I don't know how we would have known that.

And in terms of this year anticipating that the tariffs are what they are today, but they could be 2.5 after that tomorrow. We have gone a little bit more aggressive in terms of what we'll be doing in March and we would hope to do just one increase as opposed to two in 2019. So that did influence our thinking as we shaped the March increase.

Brian Biros -- Thompson Research Group -- Analyst

Got you, appreciate it, thank you.

Operator

Thank you. We do have a follow-up question from the line of Budd Bugatch with Raymond James. Your line is now open.

Budd Bugatch -- Raymond James -- Analyst

Yes. Just a couple of very quick questions. I know we didn't acquire Muuto, I think it was mid January of 2018. Remind me what the fourth-quarter pro forma might have been for Muuto last year in 2017?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Budd, I don't know that we have that right in front of us. We can look that up.

Budd Bugatch -- Raymond James -- Analyst

Okay. And Andrew you did say that you had the inventory model and I think that was the model you were going to. I wonder if you made any changes to that, is it primarily going to be an inventory model with the product continued to be made offshore and inventories in the states for the U.S. or for the domestic market?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Two things, one we've significantly increased the inventory we carry because of the demand. And two, Budd, we're now just beginning and we're actually going to make a decision recently to accelerate our ability to do more of the upholstery here in North America. So we can significantly reduce the lead times and increase our ability to do customers own fabrics and materials.

Budd Bugatch -- Raymond James -- Analyst

And is that going to be done by Knoll or you're going to outsource that? How is the thinking on that?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

It will be done by an asset light partner.

Budd Bugatch -- Raymond James -- Analyst

You mean outsource, is that?

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Correct.

Budd Bugatch -- Raymond James -- Analyst

Thank you. Thank you, good luck on the year.

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Thanks, Budd.

Operator

Thank you. We have no further questions at this time. I would like to turn the call back over to Andrew Cogan for any further remarks.

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

First, thank you everyone on the call for your participation and good questions. In closing I just want to take a moment to acknowledge the recent passing of our co-founder Florence Knoll. Not only was Florence Knoll a woman of impeccable taste and style, but she was a pioneer of the modern workplace. And frankly the entire notion of holistic interior design planning integrating furniture, textiles and architecture which is at the crux of our go-to-market strategy today was invented by Florence Knoll.

She viewed design as a problem-solving activity and was intensely focused on the client and delivering an environment that met their workplace needs. As both the Design Director and Executive, Florence was a trailblazer for women in the design and business professions. She invented the motto that good design is good business is both a mentor for Knoll as well as a rationale for clients to invest in Knoll designs.

Well, it's been many years since we were last with Florence in person, she remains an inspiration to all of us and the standards of excellence in modern design and interior she set, will always be something that we at Knoll, measure ourselves and our work against. Thank you everybody. We'll talk to you in a few months.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone have a great day.

Duration: 52 minutes

Call participants:

Andrew B. Cogan -- Chairman of the Board, President, Chief Executive Officer

Charles W. Rayfield -- Senior Vice President, Chief Financial Officer

Budd Bugatch -- Raymond James -- Analyst

Greg Burns -- Sidoti & Company -- Analyst

Matt McCall -- Seaport Global Securities -- Analyst

Brian Biros -- Thompson Research Group -- Analyst

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