GMS Inc. (GMS) Q3 2019 Earnings Conference Call Transcript

GMS earnings call for the period ending January 31, 2019.

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GMS Inc.  (NYSE:GMS)
Q3 2019 Earnings Conference Call
March 05, 2019, 8:30 a.m. ET

Contents:

Prepared Remarks:

Operator

Greetings and welcome to the GMS Inc Fiscal Third Quarter 2019 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. (Operator Instructions). As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Leslie Kratcoski, Vice President, Investor Relations for GMS Inc. Thank you. You may begin.

Leslie H. Kratcoski -- Vice President of Investor Relations

Thanks. Good morning and thanks everyone for joining us this morning for GMS' earnings conference call for the third quarter of fiscal 2019 ended January 31st, 2019. I'm joined today by Mike Callahan, President and CEO and Lynn Ross, Chief Accounting Officer and Interim CFO. In addition to the press release issued this morning, we posted presentation slides to accompany this call in the Investors section of our website at GMS.com.

On today's call, management's prepared remarks and answers to your questions may contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995.

Forward-looking statements address matters that are subject to risks and uncertainties, many of which are beyond our control and may cause actual results to differ from those discussed today. As a reminder, forward-looking statements represent management's current estimates and expectations. The Company assumes no obligation to update any forward-looking statements in the future.

Listeners are encouraged to review the more detailed discussions related to these forward-looking statements contained in the Company's filings with the SEC, including the Risk Factors section in the Company's 10-K and other periodic reports.

Today's presentation also includes the discussion of certain non-GAAP measures, the definitions and reconciliations of these non-GAAP measures are provided in the presentation and presentation slides. Please note that references on this call to third quarter and fiscal 2019 relate to the quarter ended January 31st, 2019 and the fiscal year ended April 30th, 2019 respectively.

With that, I'd now like to turn the call over to Mike Callahan. Mike?

Michael Callahan -- President, Chief Executive Officer and Director

Thanks, Les. Good morning and thank you for joining us today. I will begin today's call with a review of our operating highlights and some market commentary and then Lynn will cover our financial results in more detail.

We will then open the line for your questions. Now turning to Slide 3, we were pleased to deliver a solid third quarter highlighted by record net sales and adjusted EBITDA for both our reported and base business results. Our organic sales increase of 6.6% reflects strength and balance in both our product offering and the markets that we serve. We did face some challenges on the sales front however, including lost shipping days associated with some abnormally wet and extremely cold weather conditions in the quarter and further softening in the Canadian single-family residential construction market.

Organic revenue growth was broad based across each of our product lines with 3.9% growth in wallboard sales, 10.6% growth in ceilings and 13.1% growth in steel framing. Other product net sales were also up 4.5% organically. On the profitability front, we generated a 41.5% year-over-year increase in adjusted EBITDA to a record $59.7 million for the third fiscal quarter.

The increase reflect the contributions from Titan, increased operating leverage, including benefits from the cost savings initiatives undertaken earlier this fiscal year, continued pricing improvement and favorable lease accounting.

Let me touch on a few of these areas next. In the third quarter, there were some further softening in the Canadian single-family residential market, which resulted in sales of our Canadian business declining low single digits on a constant currency basis. With further impact from about a 5% depreciation in the Canadian dollar year-over-year.

Nonetheless, Titan continues to be very accretive to our consolidated operating results. Our long-term strategic rationale for the acquisition of Titan, including increased scale and footprint in North America, geographic expansion into the highly attractive and fragmented Canadian market and creation of a well-balanced platform for growth remains very compelling.

The integration continues to progress well as we have continued to work closely with our key suppliers to generate purchasing synergies and take advantage of our scale and the power of our North American platform. With the commencement of our annual purchasing programs in January '19, we began to realize our purchasing synergies at the run rate associated with our previously announced $10 million target for purchasing synergies.

And we continue to expect to exceed our original $10 million estimate for fiscal '20 and we continue to look for even more synergies with our cross-border suppliers and through other non-purchasing initiatives.

We have also continued to make progress on our previously announced strategic cost reduction initiatives in the US, as demonstrated to the 130 basis points of operating leverage achieved during the fiscal third quarter, which excludes the impact of the change in lease accounting.

As expected, we achieved full run rate savings as of January '19 and are on track to realize the full $20 million annual benefit of these initiatives in fiscal '20. We generated strong free cash flow of $55.6 million during the quarter, which enabled us to reduce our net debt by $32.8 million and repurchase $11.5 million of our common stock under the repurchase authorization announced last quarter.

We also opened a greenfield location just outside Akron, Ohio and this morning announced the acquisition of Commercial Builders Group, LLC, subsequent to the end of the quarter. This tuck-in acquisition operates two facilities in the Greater New Orleans and Baton Rouge, Louisiana markets, adding coverage of two important Top 100 metro areas in the US.

As evidenced by all of these actions, we are executing on our stated and balanced capital allocation strategies of debt reduction, disciplined growth through acquisitions and greenfields, and opportunistic share repurchases.

I'd now like to spend a few moments explaining our current view of the end markets that we serve. Now as a reminder, we estimate that approximately 55% of our consolidated revenues are to the commercial construction markets and approximately 45% is related to residential construction, with just less than half of that 45% related to new, single-family residential construction.

Since the latter part of calendar 2018, there has been a great deal of speculation, with respect to the current macroeconomic outlook and the potential impact on residential and commercial construction. From our perspective, we remain encouraged by what we're seeing across our business and in the broader economy.

As it relates to residential construction, while it's still early in the traditional spring selling season, we believe the late '18 slowdown in new single-family residential construction was related to a confluence of factors, including a rise in interest rates, home price appreciation and resulting affordability issues and geopolitical uncertainty.

Like others, while we expect that this market may take a pause, we do not currently believe they will be prolonged or particularly deep. Jobs and income growth remained at very healthy levels and many of the major markets in the US continue to have limited housing supply as building remains below historical averages, all of which bodes very well for the mid to long-term outlook.

On the commercial front, which represents the majority of our business, most indicators and estimates point to continued growth against the backdrop of an economy that remains healthy. We are seeing that in our own business with strong backlogs and quote activity in my recent visits to many of our locations in multiple geographies, I've heard from our own people and peak (ph) commercial customers that pipelines are strong extending through calendar 2019 and in some cases even in calendar 2020.

While it's impossible to predict what levels of growth are ultimately realized near-term in the markets we serve, we remain focused on controlling what we can. We believe our market leading position in the distribution of interior building products, our balanced product portfolio and our diversified exposure across commercial and residential new and R&R construction markets, which we believe continue to exhibit healthy long-term fundamentals will enable us to continue to take advantage of growth opportunities across our business both now and in the future.

Looking to the balance of fiscal 2019 and beyond, we remain committed to growing our business both organically and through selective acquisitions with an emphasis on profitability and free cash flow generation, with which reducing debt remains a priority.

Now with that, I will turn it over to Lynn for a more detailed review of the financial results. Lynn?

Lynn Ross -- Interim Chief Financial Officer, Chief Accounting Officer and Corporate Controller

Thanks Mike and I would also like to thank you all for joining us on the call today. We were pleased to deliver a solid third quarter highlighted by record net sales and adjusted EBITDA performance and strong free cash flow generation.

Looking at Slide 4, we grew net sales 23.6% to $723.9 million and increased our base business sales during the quarter by 6.6% compared to the third quarter of last fiscal year. Our wallboard net sales increased 16% to $297 million in the third quarter compared to the same period last year, it was driven by acquisitions and pricing. The 3.9% growth on an organic basis was comprised of a strong pricing gains of approximately 4% and flat volume, the latter of which was due in large part to the lost shipping days in the US and lower sales in Canada.

Our third quarter ceiling sales increased by 16.4% year-over-year to $105 million as a result of pricing improvement, higher organic volumes resulting from increased commercial business and the positive benefit of acquisitions.

The 10.6% organic increase was comprised of price increases of approximately 7% as well as higher volumes of approximately 3%. Our steel framing sales increased during the quarter by 21.4% year-over-year to $117.4 million. This was driven by strong pricing gains, acquisitions, and higher organic volumes from greater commercial business.

The 13.1% organic increase included price gains of approximately 10% and an uptick in volume of approximately 3%. Our sales of other products which consist of installation, joint compound, tools, (inaudible) and other complementary products totaled almost $204 million and were up 43.6% compared to the third quarter of last year.

The recent acquisition of Titan have expanded the breadth of our product offerings while at the same time, our 4.5% increase in our base business sales of other products reinforces the success of our efforts to continue to grow this other product category.

Our gross profit increased almost 20% to $234.2 million on higher sales, including the positive impact from acquisitions. Our gross margin of 32.4% declined from 33.4% a year ago primarily due to increased product costs, as well as changes in product mix. Also, last quarter's, third quarter gross margin was a tough comparison being the highest gross margin level of any quarter last fiscal year and positively impacted by a higher level of supplier incentives associated with a larger level of wallboard pre-buy.

Rising product costs over the past year included two wallboard increases, multiple steel and ceiling grid increases as well as various freight surcharges. On a sequential basis, gross margin improved 20 basis points from the second quarter and slightly exceeded the 32.2% guidance we indicated in last quarter's call, which we continue to believe is a reasonable benchmark for the remainder of this fiscal year.

Related (Technical Difficulty) to our (ph) wallboard increase we believe price cost dynamics. Turning to slide 5, we reduced our adjusted SG&A as a percentage of net sales by 210 (ph) basis points year-over-year to 24.2% in the quarter, a 130 basis points of the reduction was the result of increased cost efficiencies, primarily due to the cost reduction initiatives taken during this fiscal year as well as contributions from the Titan acquisition.

These were partially offset by continuing inflationary pressures primarily in logistics costs as well as higher costs, operating with the weather disruptions Mike referenced earlier. The remaining 80 basis points of the reduction was driven by changes to lease accounting. As we've discussed, we've made significant progress on these reduction initiatives and we continue to find many opportunities to further streamline our business.

As a result, we would expect fourth quarter adjusted SG&A as a percentage of sales to decrease year-over-year at least by the level we experienced in the third quarter. We delivered $59.7 million in adjusted EBITDA in the third quarter. This was up 41.5% year-over-year from $42.2 million in the prior year quarter. Adjusted EBITDA margin was 8.2% as a percentage of sales or 7.4% if you exclude the impact of our lease accounting, which was up 20 basis points from 7.2% a year ago.

Turning to slide 6, during the third fiscal quarter, we generated over $55 million of free cash flow. This enabled us to reduce our net debt by $33 million as well as repurchase $11.5 million of our common shares. As of January 31, our net debt to LTM pro forma adjusted EBITDA was 3.8 times. This was consistent with the level as of the end of Q2. We intend to continue to de-lever through strong free cash flow generation.

And as a reminder, our current leverage ratio post Titan compares favorably to 2014 when our ratio was six times as well as just prior to our May 2016 IPO when it was 4.3 times.

Additionally, of our total long-term debt, approximately just over 75% is not due until 2025. Also, in order to hedge against potential future interest rate volatility in February, we entered into an interest rate swap agreement.

This agreement effectively provides a fixed rate on $0.5 billion of our first lien term debt. Our balance sheet remains healthy with $74.3 million cash on hand and $220 million available under our ABL facilities. This results in substantial liquidity for the business.

Now, let me turn the call back over to Mike, before we open the line for questions.

Michael Callahan -- President, Chief Executive Officer and Director

Thanks, Lynn. Just a few additional comments before we open the line for questions. We are pleased with our third quarter performance and believe that as the market leading distributor of interior building products with significant scale advantages combined with local expertise, we are poised for continued growth.

Our third quarter results provided further evidence of this, with sales and adjusted EBITDA growth of over 23% and 41% respectively.

We continue to take advantage of our multiple levers to drive this growth through organic growth, greenfields, M&A, and operating leverage. We believe our large, diverse end markets continue to exhibit healthy fundamentals providing us with significant growth opportunities across our business, both now and in the future.

And then finally and probably most importantly, our great network of dedicated GMS employees in both the US and Canada continue to embrace our strong entrepreneurial culture to deliver the outstanding service to our customers that we believe will deliver profitable growth over time to our shareholders.

And with that, operator, we're now ready to open the line up for questions.

Questions and Answers:

Operator

Thank you. (Operator Instructions). Our first question comes from the line of Michael Wood with Nomura Instinet. Please proceed with your question.

Ryan -- Nomura Instinet -- Analyst

Hey, guys. This is Ryan calling on for Mike. Did logistics surprise you -- was this sudden and can you just explain how logistics hurt SG&A whether this is freight rates or inefficiencies?

Michael Callahan -- President, Chief Executive Officer and Director

Well, I think the short answer to that is, as I mentioned there was definitely some impacts weather related and the reality is that when you're -- when you're dealing with production challenges just in terms of getting loads out, your logistics and efficiency in terms of labor utilization is impacted.

So I would say that really was a key factor in how logistics impacted us in the quarter.

Ryan -- Nomura Instinet -- Analyst

Okay, thank you. And then just one follow-up. How did flat organic wallboard volumes compare to industry sell-through in your view?

Lynn Ross -- Interim Chief Financial Officer, Chief Accounting Officer and Corporate Controller

Yeah. Thanks for the question. In terms of how we compare it to the industry, the Gypsum Association data, our read on that data is that we believe that we maintained share. We believe that most of the both year-to-date decline and quarter-over-quarter decline in the Gypsum Association was due to the impact of pre-buy. So looking at that, we believe our flat volumes indicate that we are on par with our market share.

Ryan -- Nomura Instinet -- Analyst

Thank you.

Operator

Thank you. Our next question comes from the line of David Manthey with Baird. Please proceed with your question.

David Manthey -- Robert W. Baird & Co. -- Analyst

Thank you. Good morning.

Michael Callahan -- President, Chief Executive Officer and Director

Hi Dave.

David Manthey -- Robert W. Baird & Co. -- Analyst

Hey, good morning. First off, you mentioned that your gross margin percentage was lower due partly to higher product costs, but clearly, your realized selling prices were higher also. I guess, this implies the price cost relationship is negative. Could you talk a little bit about that relationship and why you think that happened?

Lynn Ross -- Interim Chief Financial Officer, Chief Accounting Officer and Corporate Controller

Yeah, sure, thanks for the question. Related to the year-over-year decline in gross margin, this was due to -- like we said some changes in product cost and mix. In addition, the prior-year comp was really impacted by a higher level of volume incentives that we realized in the third quarter of prior year due to the December 2017 pre-buy.

David Manthey -- Robert W. Baird & Co. -- Analyst

Okay, thank you. And then second, what is your outlook for price in the coming 12 months to 18 months? I guess, we should assume a little bit less leverage on SG&A if your pricing moderates down, is that your assumption?

Michael Callahan -- President, Chief Executive Officer and Director

No, that's not our assumption at this point. I mean, as you know, Dave, price in terms of wallboard, the price increases literally rolling out as we speak, and then it took effect in the first part of March. So there have been announced increases as always, it takes a period of time for to settle out but our assumption right now is to continue to look through the pending increase of the existing increase and see how it settles in, we're not baking in a lower price environment for the year.

David Manthey -- Robert W. Baird & Co. -- Analyst

I just meant more moderate price increases than last year in steel for example.

Michael Callahan -- President, Chief Executive Officer and Director

Oh, I'm sorry, I would say, yeah, probably would say generally speaking, I think if you look at steel prices, they certainly have moderated kind of flattened out, but I think that's a safe assumption, yeah. The only caveat to that might be insulation. I think insulation is still on the bubble, as it relates to the inflation.

David Manthey -- Robert W. Baird & Co. -- Analyst

Great, all right. Thanks, Mike.

Michael Callahan -- President, Chief Executive Officer and Director

Thanks David.

Operator

Thank you. Our next question comes from the line of Trey Grooms with Stephens, Inc. Please proceed with your question.

Trey Grooms -- Stephens Inc -- Analyst

Hey, good morning.

Michael Callahan -- President, Chief Executive Officer and Director

Good morning, Trey.

Trey Grooms -- Stephens Inc -- Analyst

Just real quick, I guess, kind of following up with the last question is the looking out on pricing, you mentioned, maybe a little bit more moderate price increases, were you talking specifically just for clarity around wallboard pricing or and I know you mentioned steel, but wallboard pricing or ceilings any -- is it both or one or the other that you're referring to just for clarity?

Michael Callahan -- President, Chief Executive Officer and Director

I would say that in terms of the pricing going forward, wallboard certainly the increase as I said is in the process of rolling out as we speak. I think in terms of ceilings, as we've often said, ceilings generally tends to price up one to two increases a year, it's a 3% to 5% increase generally speaking on ceilings. Insulation, there still seems to be pressure on pricing as far as that goes, so I would anticipate maybe be some inflation there. And, but steel has definitely settled down a bit and I don't see any near-term price increases there.

Trey Grooms -- Stephens Inc -- Analyst

All right. Well, thanks for that. Just hearing that you are expecting more moderate, I just was making sure we were fully understanding that comment. Okay, and then secondly, is the Canadian market is clearly weakened, was down this most recent quarter for you guys, what are you hearing from your customers there and their outlook for the building season in that market as we're kind of at least starting to come into view with the building season here in Canada.

Michael Callahan -- President, Chief Executive Officer and Director

Well, there is a general backdrop, clearly just in this period of time tends to be a seasonal slowdown for Canada anyway just based on the snow and cold conditions, I would say the outlook right now on the single-family side there definitely has been some downward pressure, single family detached.

So the stand-alone homes definitely have seen, and a lot of that frankly has to do with the mortgage programs they have in place and the stress test that the Canadian government essentially has imposed on mortgages, so that's definitely had an impact, but I would say that the, when you look at the commercial high rise and commercial development as well as the commercial multi-family, and this pretty much goes across the board.

The market outlook is still very positive. So I would say as far as Canada is concerned, it's pretty well not completely isolated, but for the most part, it's that single-family detached business, which is under pressure right now, but our view is still positive, I mean I think the market overall is sound and the outlook is generally pretty optimistic.

Trey Grooms -- Stephens Inc -- Analyst

Okay. Thank you. And last one from me is just on with the increases that are out there, especially on wallboard, are you guys seeing or are you guys participating in any pre-buy of any size at this point?

Lynn Ross -- Interim Chief Financial Officer, Chief Accounting Officer and Corporate Controller

No. We've had limited pre-buy this season.

Trey Grooms -- Stephens Inc -- Analyst

All right. That's it for me. I'll pass it on. Thanks a lot.

Michael Callahan -- President, Chief Executive Officer and Director

Thanks, Trey.

Operator

Thank you. Our next question comes from the line of Keith Hughes with SunTrust Robinson Humphrey. Please proceed with your question.

Keith Hughes -- SunTrust Robinson Humphrey -- Analyst

Thank you. The EBITDA margins were up 20 basis points year-over-year excluding the change in the leases. I assume were your organic margins down given the Titan usually mixes you up and if so, kind of how much?

Lynn Ross -- Interim Chief Financial Officer, Chief Accounting Officer and Corporate Controller

Yeah, thanks for the question, Keith. We don't break it down by the geographies.

Keith Hughes -- SunTrust Robinson Humphrey -- Analyst

Okay. Let me ask you this way on Titan, you talked about sales being weak, if you kind of comment -- I know, you didn't own it last year, but just roughly how did their margins look compared to last year given the weak environment?

Lynn Ross -- Interim Chief Financial Officer, Chief Accounting Officer and Corporate Controller

Yeah Keith, they were lower and their SG&A as a percentage of sales was also impacted by the same weather conditions that we discussed, and one thing on a constant currency basis, sales were down 2%, the Canadian dollar did decline about 5% and that resulted in about a little bit less than $1 million impact on their adjusted EBITDA.

Keith Hughes -- SunTrust Robinson Humphrey -- Analyst

And just one small question on this come up in the fourth quarter, the interest expense we saw in the third, is that roughly a tax rate -- is that roughly what we'll see in the fourth quarter?

Leslie H. Kratcoski -- Vice President of Investor Relations

Yes, that's a good way to think about the fourth quarter in terms of interest and taxes.

Keith Hughes -- SunTrust Robinson Humphrey -- Analyst

Okay, great. Thank you.

Michael Callahan -- President, Chief Executive Officer and Director

Thanks Keith.

Operator

Thank you. Our next question comes from the line of Matt Bouley with Barclays. Please proceed with your question.

Matthew Adrien Bouley -- Barclays Bank PLC -- Analyst

Hi, thank you for taking my questions. Mike, are you able to kind of quantify the impact of lost shipping days in the quarter and then maybe provide any comments around what you've seen, I guess in February thus far? Thanks.

Michael Callahan -- President, Chief Executive Officer and Director

Yeah, thanks Matt. You know, it's really tough to quantify the bulk of the impact in terms of weather tends to gravitate toward single family, and if you look at our numbers overall, our mix you're probably looking 22%, 23% of our business overall is new revenue, if you break it down on that basis. So when you think about that, given the -- just the magnitude of the impact that had on the single-family piece and it is -- we lost numerous shipping days, it's not just the fact that it rains for three or four consecutive days, but it's also that you've got to get the job sites themselves to dry out.

So while I can't really quantify that, I think anybody that's been looking at the news and seeing it from Texas all the way to DC that we've all had to deal with pretty adverse conditions. Now, we'll say that the November-December we're under a lot of pressure, January, we saw a significant pick up in momentum and activity, which carried over into February.

So I would say that the momentum activity in January plus, frankly we were delivering on Saturdays trying to catch up, which also leads to some SG&A pressure frankly in terms of overtime and things such as that. So if you pick all that together. So we're trying to catch up as best we can. But fundamentally, I think the January, February momentum levels give us cause for optimism going into the fourth quarter.

Leslie H. Kratcoski -- Vice President of Investor Relations

Yeah, I would note also that our February per day sales is up versus prior year on an organic basis.

Michael Callahan -- President, Chief Executive Officer and Director

That's a good point.

Matthew Adrien Bouley -- Barclays Bank PLC -- Analyst

Okay. Appreciate that detail. Excuse me. And then secondly just following up on the Titan business in Canada obviously, you called out the challenges on the single-family side and that the data seems to be a bit better on the multi-family side, could you remind us of Titan's multi-family versus single family exposure and then just maybe put some finer points around what you're seeing on the multifamily side specifically because I do think that the data has been a bit stronger there. Thank you.

Michael Callahan -- President, Chief Executive Officer and Director

Thanks.

Leslie H. Kratcoski -- Vice President of Investor Relations

Yeah, there are 40% commercial construction and then 60% resi. On the resi side, about 40% new and then in that 40% of the total in market and 20% R&R and we estimate on the commercial side, that there's 10 new and 30 R&R.

Matthew Adrien Bouley -- Barclays Bank PLC -- Analyst

Okay, appreciate the detail. Thank you.

Operator

Thank you. Our next question comes from the line of Michael Dahl with RBC Capital Markets. Please proceed with your question.

Michael Glaser Dahl -- RBC Capital Markets -- Analyst

Good morning, thanks for taking my questions.

Michael Callahan -- President, Chief Executive Officer and Director

Good morning, Michael.

Michael Glaser Dahl -- RBC Capital Markets -- Analyst

Mike, I wanted to follow up on the pricing comments again, actually two parts of it, but first on the wallboard side I think you'd (ph) mentioned not really any pre-buy right now, and you're talking about seeing how the price increases settle out there early on, but is there anything to interpret in terms of how you're viewing the market and the likelihood for price in terms of you guys not participating in pre-buy?

Michael Callahan -- President, Chief Executive Officer and Director

Well, first off, the circumstances around pre-buy this year, different because of the increase itself is pushed out. So routinely this is a January increase and it got pushed out this year. So, and then of course based on some of the conditions relative to deliveries and some of the pressure just to build ability to find a place to put the Board was limited based on our inventory positions and delivery lag. So the general outlook, Mike, is that we are going to be nimble as the price increase is introduced into the marketplace, but it's so -- we're still early on, we don't really know a lot of it has to do with just demand levels and traction and take away from the plants and that literally has taken place as we speak.

Now that the manufacturers continue to talk about escalating cost and inflationary pressures and they're reacting to that with their price increases, but the market will dictate just exactly how much of this ultimately is going to be realized and depending on when it settles in first, there maybe a second phase to the increases as they always leave the door open for that.

So I can't really handicap it at this point we are going up as we received higher costs from our manufacturers in many cases where we're quoting commercial work, we're quoting escalators, based on the projected increase and we have yet to see how it's all going to settle out.

Michael Glaser Dahl -- RBC Capital Markets -- Analyst

Okay, that's helpful. The second part of the pricing was really back related to steel and comments about not expecting any further increases, I guess, given the path of steel pricing, when you look out over the next few quarters, do you think that we could see price declines actually?

Michael Callahan -- President, Chief Executive Officer and Director

That's really -- that really is hard for me to call based on the current, you know just the current uncertainties around steel in general and tariffs and everything else that's going on. What I will tell you though is that we have our purchasing group here has a daily dialog on those with the steel producers, and we keep very, very close to the ground as to what's going on relative to steel pricing, and so, are -- we can move quickly too, but based on how we turned our inventories, I mean our steel inventories cycle very quickly.

So even if there is a near-term price adjustment up or downwards, we're able to cycle through that pretty quickly based on our just on how quickly we cycle the steel inventories. So it's tough to handicap right now, I would say right now, we look at it is kind of flattish and where it goes from here really remains to be seen based on demand levels and just consumption.

Michael Glaser Dahl -- RBC Capital Markets -- Analyst

Got it. If I could fit one more in, you made a comment about the fourth quarter gross margin, I just wanted to understand or clarify that a little, were you saying that the 32.4% seen in 3Q was still the reasonable assumption for 4Q or was that comment related to your prior 32.2%?

Leslie H. Kratcoski -- Vice President of Investor Relations

Yes. No, our guidance continues to be the 32.2%

Michael Glaser Dahl -- RBC Capital Markets -- Analyst

Okay, great. Thank you.

Michael Callahan -- President, Chief Executive Officer and Director

Thanks, Mike.

Operator

Thank you. Our next question comes from the line of Kevin Hocevar with Northcoast Research. Please proceed with your question.

Kevin Hocevar -- Northcoast Research -- Analyst

Hey, good morning everybody.

Michael Callahan -- President, Chief Executive Officer and Director

Hey Kevin.

Kevin Hocevar -- Northcoast Research -- Analyst

You mentioned that so 3Q '18 had a favorable gross margins for the -- you mentioned incentives ahead of price increases taking effect on the wallboard side, it sounds like you're not really pre-buying much ahead of this increase and gross margin expectations are from 3Q to 4Q relatively similar, so can we infer from that, that you're not seeing the same level of incentives this year as you saw last year ahead of the price increases?

Leslie H. Kratcoski -- Vice President of Investor Relations

The favorable -- the favor ability that we saw in our margin last Q3 due to the incentives was simply I think timing of the purchases. So in terms of whole dollars or percentage, the incentives remained fairly constant, if not even a little bit more favorable. So no, I wouldn't infer that.

Kevin Hocevar -- Northcoast Research -- Analyst

Okay. Okay. And then, so the largest (ph) wallboard manufacturers is that can be acquired here sometime in early 2019, so curious if you have any thoughts on that in terms of do you expect that to have any impact on that industry, or do you think it will be pretty much business as usual after that transfer takes place?

Michael Callahan -- President, Chief Executive Officer and Director

You know, in my view, having done business, a significant business with both sides of that equation, so to speak I think it's going to be business as usual. I think it's going to be a very strong and formidable Company and they certainly have a very impressive array of products from the insulation side, all the way through wallboard and ceiling, so, from our advantage point, it's going to be business as usual and we're going to continue to do business with them as a combined entity just as we have separately in the past.

Kevin Hocevar -- Northcoast Research -- Analyst

Got you. Okay, thank you very much.

Michael Callahan -- President, Chief Executive Officer and Director

Thanks.

Operator

Thank you. Our next question comes from the line of Matt McCall with Seaport Global Securities. Please proceed with your question.

Matt McCall -- Seaport Global Securities -- Analyst

Thanks. Good morning everybody.

Michael Callahan -- President, Chief Executive Officer and Director

Good morning.

Matt McCall -- Seaport Global Securities -- Analyst

Sorry, I lost my voice. So Mike, you made some comments -- bullish comments about the mid to long term, specifically on the residential markets. I was curious about more the near-term view as you said, there may be a pause, I'm just -- I'm wondering about the impact of kind of the start weakness that we saw in '18 and expected impact on your business to start '19 -- calendar '19?

Michael Callahan -- President, Chief Executive Officer and Director

Well, I mean I think it's logical to say that the same thing that we were talking about in terms of weather impacts on our business has impacts on starts too. I mean, it's tough to clear a land with a bulldozer when it's going to be submerged in six foot of water, it had a subdivision in Atlanta, Georgia. So I mean I think the reality is our outlook is that if there is slippage, we think it's going to be moderate slippage because there's still a shortage of inventory in just about every major market that we serve.

So, and based on our conversations with the large national homebuilders that we do business with, throughout our footprint, that house counts generally speaking are up and I think the general attitude of the homebuilders is optimistic as well with the custom builders.

It's just with the rate increases back at '18 carrying it over under the tough winter, I think the data is just kind of noisy right now. So as we get deeper into the spring selling season, I think all of us will have a little bit better clarity on where this market is going to settle out. But a pause, I think is the best word because I don't consider to be at a kind of a long-term slippage.

I think it's just a matter of making a temporary market adjustment, frankly.

Matt McCall -- Seaport Global Securities -- Analyst

Okay, thanks, that's helpful. The detail around the synergies and the cost saves that was also helpful. Can you -- it sounds like you're optimistic about meeting or exceeding those goals, but can you give us an idea of where you were as of Q3 for both the synergies and the cost saves and how we should layer those in over the next, I guess, four, five quarters?

Lynn Ross -- Interim Chief Financial Officer, Chief Accounting Officer and Corporate Controller

Yes. Are you referring to the the Titan synergies or SG&A synergies?

Matt McCall -- Seaport Global Securities -- Analyst

Both, the cost saves and in the synergies as well.

Lynn Ross -- Interim Chief Financial Officer, Chief Accounting Officer and Corporate Controller

Yes. So on the SG&A, so I would expect that for Q4 that our reduction in SG&A as a percentage of sales, our SG&A leverage is somewhere between where it was Q2 over Q2, and Q3 over Q3.

Matt McCall -- Seaport Global Securities -- Analyst

Okay. And then does that kind of get you -- I think you had talked about the total for -- I think you said through 2020 for both synergies and cost saves. So I guess, when do we hit the full run rate of each of those, both from Titan and the SG&A or the operational synergies?

Lynn Ross -- Interim Chief Financial Officer, Chief Accounting Officer and Corporate Controller

So in terms of the full run rate on the Titan synergies, we just -- those will both be 2020. Yeah, those will both be 2020.

Michael Callahan -- President, Chief Executive Officer and Director

When we have the $10 million, the $10 million full run rate synergies with Titan, which we expect to exceed, those will be fully realized in fiscal '20, which is April of '20 and the same thing on the cost efficiencies or the cost savings of '20 (ph).

Matt McCall -- Seaport Global Securities -- Analyst

Okay, all right. Thank you.

Operator

Thank you. Ladies and gentlemen, this concludes our question-and-answer session. I will turn the floor back to Mr. Callahan for any final comments.

Michael Callahan -- President, Chief Executive Officer and Director

Well, thank you everybody for joining us today. We're very excited about where we are today and we look forward to updating you on our progress on the coming quarters. Thanks for your time today.

Operator

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.

Duration: 42 minutes

Call participants:

Leslie H. Kratcoski -- Vice President of Investor Relations

Michael Callahan -- President, Chief Executive Officer and Director

Lynn Ross -- Interim Chief Financial Officer, Chief Accounting Officer and Corporate Controller

Ryan -- Nomura Instinet -- Analyst

David Manthey -- Robert W. Baird & Co. -- Analyst

Trey Grooms -- Stephens Inc -- Analyst

Keith Hughes -- SunTrust Robinson Humphrey -- Analyst

Matthew Adrien Bouley -- Barclays Bank PLC -- Analyst

Michael Glaser Dahl -- RBC Capital Markets -- Analyst

Kevin Hocevar -- Northcoast Research -- Analyst

Matt McCall -- Seaport Global Securities -- Analyst

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