Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.

The financial and business analysis below provides information which we believe is relevant to an assessment and understanding of our consolidated financial position, results of operations and cash flows. This financial and business analysis should be read in conjunction with the consolidated financial statements and related notes.

The following discussion and certain other sections of this Report contain statements that reflect our views about our future performance and constitute "forward-looking statements" under the Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by words such as "believe," "anticipate," "appear," "may," "will," "should," "intend," "plan," "estimate," "expect," "assume," "seek," "forecast" and similar references to future periods. Our views about future performance involve risks and uncertainties that are difficult to predict and, accordingly, our actual results may differ materially from the results discussed in our forward-looking statements. We caution you against relying on any of these forward-looking statements.

In addition to the various factors included in the "Executive Level Overview," "Critical Accounting Policies and Estimates" and "Outlook for the Company" sections, our future performance may be affected by the levels of home improvement activity and new home construction, our ability to maintain our strong brands and to develop and introduce new and improved products, our ability to maintain our competitive position in our industries, our reliance on key customers, our ability to achieve the anticipated benefits of our strategic initiatives, our ability to improve our under-performing U.S. window business, the cost and availability of raw materials, our dependence on third party suppliers, and risks associated with international operations and global strategies. These and other factors are discussed in detail in Item 1A "Risk Factors" of this Report. Any forward-looking statement made by us speaks only as of the date on which it was made. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. Unless required by law, we undertake no obligation to update publicly any forward-looking statements as a result of new information, future events or otherwise.

Executive Level Overview

We design, manufacture and distribute branded home improvement and building products. These products are sold for home improvement and new home construction through home center retailers, mass merchandisers, hardware stores, homebuilders, distributors and other outlets for consumers and contractors and direct to the consumer.

2016 Results

Net sales were positively affected by increased sales volume resulting from increased repair and remodel activity and new home construction, and favorable product mix in the U.S. and Europe. Such increases were partially offset by foreign currency translation, primarily due to the stronger U.S. dollar compared to the British Pound and Euro and net selling price decreases in North America. Our results of operations were positively affected by increased sales volume, a more favorable relationship between selling prices and commodity costs, operational efficiencies, and cost savings initiatives. Such increases were partially offset by an increase in warranty costs resulting from a change in our estimate of expected future warranty claim costs and an increase in certain variable expenses, such as strategic growth investments, as well as ERP system implementation and higher insurance costs.

Our Plumbing Products segment benefited from increased sales volume, a favorable relationship between selling prices and commodity costs and benefits associated with cost savings initiatives, and was negatively impacted by an increase in certain variable expenses, such as strategic growth investments and higher insurance costs, as well as unfavorable product mix. The Decorative Architectural Products segment benefited from increased sales volume of paints and other coating products and builder's hardware, partially offset by an unfavorable relationship betwen selling prices and commodity costs of paints and other coating products. Our Cabinetry Products segment benefited from operational efficiencies resulting from business rationalization activities and other cost savings initiatives, a positive product mix and a more favorable relationship between selling prices and commodity costs, and was negatively impacted by decreased sales volume. Our Windows and Other Specialty Products segment was negatively affected by increased warranty costs and certain other expenses, such as higher labor costs and ERP system implementation costs, and was positively impacted by a more favorable relationship between selling prices and commodity costs of windows.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP"). The preparation of these financial statements requires us to make certain estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of any contingent assets and

liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. We regularly review our estimates and assumptions, which are based upon historical experience, as well as current economic conditions and various other factors that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of certain assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates and assumptions.

Note A to the consolidated financial statements includes our accounting policies, estimates and methods used in the preparation of our consolidated financial statements.

We believe that the following critical accounting policies are affected by significant judgments and estimates used in the preparation of our consolidated financial statements.

Revenue Recognition and Receivables

We recognize revenue as title to products and risk of loss is transferred to customers or when services are rendered. We record estimated reductions to revenue for customer programs and incentive offerings, including special pricing and co-operative advertising arrangements, promotions and other volume-based incentives. We monitor our customer receivable balances and the credit worthiness of our customers on an on-going basis and maintain allowances for doubtful accounts receivable for estimated losses resulting from the inability of customers to make required payments. Allowances are estimated based upon specific customer balances, where a risk of default has been identified, and also include a provision for non-customer specific defaults based upon historical collection, return and write-off activity.

Goodwill and Other Intangible Assets

We record the excess of purchase cost over the fair value of net tangible assets of acquired companies as goodwill or other identifiable intangible assets. In the fourth quarter of each year, or as events occur or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount, we complete the impairment testing of goodwill utilizing a discounted cash flow method. We selected the discounted cash flow methodology because we believe that it is comparable to what would be used by market participants. We have defined our reporting units and completed the impairment testing of goodwill at the operating segment level, as defined by GAAP.

Determining market values using a discounted cash flow method requires us to make significant estimates and assumptions, including long-term projections of cash flows, market conditions and appropriate discount rates. Our judgments are based upon historical experience, current market trends, consultations with external valuation specialists and other information. While we believe that the estimates and assumptions underlying the valuation methodology are reasonable, different estimates and assumptions could result in different outcomes. In estimating future cash flows, we rely on internally generated five-year forecasts for sales and operating profits, including capital expenditures, and, currently, a one to three percent long-term assumed annual growth rate of cash flows for periods after the five-year forecast. We generally develop these forecasts based upon, among other things, recent sales data for existing products, planned timing of new product launches, estimated repair and remodel activity and estimated housing starts. Our assumptions included a relatively stable U.S. Gross Domestic Product growing at 2.3 percent and a euro zone Gross Domestic Product growing at 1.4 percent annually over the five-year forecast.

We utilize our weighted average cost of capital of approximately 8.5 percent as the basis to determine the discount rate to apply to the estimated future cash flows. Our weighted average cost of capital is unchanged as compared to 2015. In 2016, based upon our assessment of the risks impacting each of our businesses, we applied a risk premium to increase the discount rate to a range of 10.5 percent to 13.5 percent for our reporting units.

If the carrying amount of a reporting unit exceeds its fair value, we measure the possible goodwill impairment based upon an allocation of the estimate of fair value of the reporting unit to all of the underlying assets and liabilities of the reporting unit, including any previously unrecognized intangible assets (Step Two Analysis). The excess of the fair value of a reporting unit over the amounts assigned to its assets and liabilities is the implied fair value of goodwill. An impairment loss is recognized to the extent that a reporting unit's recorded goodwill exceeds the implied fair value of goodwill.

In the fourth quarter of 2016, we estimated that future discounted cash flows projected for all of our reporting units were greater than the carrying values. Accordingly, we did not recognize any impairment charges for goodwill. A 10 percent decrease in the estimated fair value of our reporting units would not have resulted in any additional analysis of goodwill impairment for any reporting unit.

We review our other indefinite-lived intangible assets for impairment annually, in the fourth quarter, or as events occur or circumstances change that indicate the assets may be impaired without regard to the business unit. We consider the implications of both external (e.g., market growth, competition and local economic conditions) and internal (e.g., product sales and expected product growth) factors and their potential impact on cash flows related to the intangible asset in both the near- and long-term. In 2016, we did not recognize any impairment charges for other indefinite-lived intangible assets.

Employee Retirement Plans

We froze all future benefit accruals under substantially all of our domestic and foreign qualified and domestic non-qualified defined-benefit pension plans several years ago.

Accounting for defined-benefit pension plans involves estimating the cost of benefits to be provided in the future, based upon vested years of service, and attributing those costs over the time period each employee works. We develop our pension costs and obligations from actuarial valuations. Inherent in these valuations are key assumptions regarding inflation, expected return on plan assets, mortality rates and discount rates for obligations and expenses. We consider current market conditions, including changes in interest rates, in selecting these assumptions. While we believe that the estimates and assumptions underlying the valuation methodology are reasonable, different estimates and assumptions could result in different reported pension costs and obligations within our consolidated financial statements.

In December 2016, our discount rate decreased for obligations to an average of 3.5 percent from 4.0 percent. The discount rate for obligations is based upon the expected duration of each defined-benefit pension plan's liabilities matched to the December 31, 2016 Towers Watson Rate Link curve. The discount rates we use for our defined-benefit pension plans ranged from 1.5 percent to 4.0 percent, with the most significant portion of the liabilities having a discount rate for obligations of 3.8 percent or higher. The assumed asset return was primarily 7.25 percent, reflecting the expected long-term return on plan assets based upon an analysis of expected and historical rates of return of various asset classes utilizing the current and long-term asset allocation of the plan assets.

Our net underfunded amount for our qualified defined-benefit pension plans, which is the difference between the projected benefit obligation and plan assets, decreased to $338 million at December 31, 2016 from $401 million at December 31, 2015. Our projected benefit obligation for our unfunded, non-qualified, defined-benefit pension plans was $170 million at December 31, 2016 compared with $174 million at December 31, 2015. These unfunded plans are not subject to the funding requirements of the Pension Protection Act of 2006. In accordance with the Pension Protection Act, the Adjusted Funding Target Attainment Percentage for the various defined-benefit pension plans ranges from 76 percent to 109 percent.

The decrease in our projected benefit obligations was partially driven by lump sum payouts of certain long-term qualified pension obligations as well as a change to the MP 2016 Mortality Improvement Scale, which decreased our long-term pension liabilities. The decrease was partially offset by a lower discount rate compared to the prior year. During 2016, we contributed $100 million to our qualified defined-benefit pension plans, including $51 million to a previously unfunded pension plan. Additionally, our qualified defined-benefit pension plan assets had a net gain of 8.3 percent in 2016. Refer to Note M to the consolidated financial statements for additional information.

We expect pension expense for our qualified defined-benefit pension plans to be $22 million in 2017 compared with $25 million in 2016. If we assumed that the future return on plan assets was one-half percent lower than the assumed asset return and the discount rate decreased by 50 basis points, the 2017 pension expense would increase by $4 million. We expect pension expense for our non-qualified defined-benefit pension plans to be $8 million in 2017, compared to $9 million in 2016.

We anticipate that we will be required to contribute approximately $21 million in 2017 to our qualified and non-qualified defined-benefit plans. Refer to Note M to the consolidated financial statements for further information regarding the funding of our plans.

Income Taxes

Deferred taxes are recognized based on the future tax consequences of differences between the financial statement carrying value of assets and liabilities and their respective tax basis. The future realization of deferred tax assets depends on the existence of sufficient taxable income in future periods. Possible sources of taxable income include taxable income in carryback periods, the future reversal of existing taxable temporary differences recorded as a deferred tax liability, tax-planning strategies that generate future income or gains in excess of anticipated losses in the carryforward period and projected future taxable income.

If, based upon all available evidence, both positive and negative, it is more likely than not (more than 50 percent likely) such deferred tax assets will not be realized, a valuation allowance is recorded. Significant weight is given to positive and negative evidence that is objectively verifiable. A company's three-year cumulative loss position is significant negative evidence in considering whether deferred tax assets are realizable, and the accounting guidance restricts the amount of reliance we can place on projected taxable income to support the recovery of the deferred tax assets.

In the third quarter of 2014, we recorded a $517 million tax benefit from the release of the valuation allowance against our U.S. Federal and certain state deferred tax assets due primarily to a return to sustainable profitability in our U.S. operations. In reaching this conclusion, we considered the continued improvement in both the new home construction market and repair and remodel activity in the U.S. and our progress on strategic initiatives to reduce costs and expand our product leadership positions which contributed to the continued improvement in our U.S. operations over the past few years. In the fourth quarter of 2014, we recorded an additional $12 million tax benefit from the release of the valuation allowances against certain U.K. and Mexican deferred tax assets primarily resulting from a return to sustainable profitability in these jurisdictions.

We continue to maintain a valuation allowance on certain state and foreign deferred tax assets as of December 31, 2016. Should we determine that we would not be able to realize our remaining deferred tax assets in these jurisdictions in the future, an adjustment to the valuation allowance would be recorded in the period such determination is made. The need to maintain a valuation allowance against deferred tax assets may cause greater volatility in our effective tax rate.

The current accounting guidance allows the recognition of only those income tax positions that have a greater than 50 percent likelihood of being sustained upon examination by the taxing authorities. We believe that there is an increased potential for volatility in our effective tax rate because this threshold allows changes in the income tax environment and the inherent complexities of income tax law in a substantial number of jurisdictions to affect the computation of our liability for uncertain tax positions to a greater extent.

While we believe we have adequately provided for our uncertain tax positions, amounts asserted by taxing authorities could vary from our liability for uncertain tax positions. Accordingly, additional provisions for tax-related matters, including interest and penalties, could be recorded in income tax expense in the period revised estimates are made or the underlying matters are settled or otherwise resolved.

The potential for comprehensive tax reform in 2017, if implemented, may have a significant impact on our effective tax rate or taxes paid due to certain business provisions such as the denial of net interest expense deductions or the imposition of a tax on imports.

Warranty

We offer full and limited warranties on certain products with warranty periods ranging up to the lifetime of the product to the original consumer purchaser. At the time of sale, we accrue a warranty liability for the estimated future cost to provide products, parts or services to repair or replace products in satisfaction of warranty obligations. Our estimate of future costs to service our warranty obligations is based upon the information available and includes a number of factors, such as the warranty coverage, the warranty period, historical experience specific to the nature, frequency and average cost to service the claim, along with industry and demographic trends.

Certain factors and related assumptions in determining our warranty liability involve judgments and estimates and are sensitive to changes in the aforementioned factors. We believe that the warranty accrual is appropriate; however, actual claims incurred could differ from the original estimates thereby requiring adjustments to previously established accruals. Refer to Note U to the consolidated financial statements for additional information.

A significant portion of our business is at the consumer retail level through home center retailers and other major retailers. A consumer may return a product to a retail outlet that is a warranty return. However, certain retail outlets do not distinguish between warranty and other types of returns when they claim a return deduction from us. Our revenue recognition policy takes into account this type of return when recognizing revenue, and deductions are recorded at the time of sale.

Litigation

We are subject to claims, charges, litigation and other proceedings in the ordinary course of our business. Liabilities and costs associated with these matters require estimates and judgments based upon our professional knowledge and experience and that of our legal counsel. When estimates of our exposure in these matters meet the criteria for recognition under accounting guidance, amounts are recorded as charges to earnings. The ultimate resolution of these exposures may differ due to subsequent developments.

Corporate Development Strategy

We expect to maintain a balanced growth strategy pursuing organic growth by maximizing the full potential of our existing core businesses and complementing our existing business with smaller, strategic acquisitions, particularly in the Plumbing Products and Decorative Architectural Products segment. Longer-term, we may seek larger, strategic acquisitions as our company continues to grow.

In addition, we actively manage our portfolio of companies by divesting of those businesses that do not align with our long-term growth strategy. We will continue to review all of our businesses to determine which businesses may not be core to our long-term growth strategy.

Liquidity and Capital Resources

Historically, we have largely funded our growth through cash provided by our operations, long-term bank debt and the issuance of notes in the financial markets, and by the issuance of our common stock, including issuances for certain mergers and acquisitions. Maintaining high levels of liquidity and focusing on cash generation are among our financial strategies.

Our total debt as a percent of total capitalization was 104 percent and 98 percent at December 31, 2016 and 2015, respectively. Refer to Note K to the consolidated financial statements for additional information.

On March 17, 2016, we issued $400 million of 3.5% Notes due April 1, 2021 and $500 million of 4.375% Notes due April 1, 2026. We received proceeds of $896 million, net of discount, for the issuance of these Notes. The Notes are senior indebtedness and are redeemable at our option at the applicable redemption price. On April 15, 2016, proceeds from the debt issuances, together with cash on hand, were used to repay and early retire all of our $1 billion, 6.125% Notes which were due on October 3, 2016 and all of our $300 million, 5.85% Notes which were due on March 15, 2017. In connection with these early retirements, we incurred $40 million of debt extinguishment costs, which we recorded as interest expense.

On June 15, 2015, we repaid and retired all of our $500 million, 4.8% Notes on the scheduled retirement date.

On March 24, 2015, we issued $500 million of 4.45% Notes due April 1, 2025. These Notes are senior indebtedness and are redeemable at our option.

On March 28, 2013, we entered into a credit agreement (the "Credit Agreement") with a bank group, with an aggregate commitment of $1.25 billion and a maturity date of March 28, 2018. On May 29, 2015 and August 28, 2015, we amended the Credit Agreement with the bank group (the "Amended Credit Agreement"). The Amended Credit Agreement reduces the aggregate commitment to $750 million and extends the maturity date to May 29, 2020. Under the Amended Credit Agreement, at our request and subject to certain conditions, we can increase the aggregate commitment up to an additional $375 million with the current bank group or new lenders. Refer to Note K to the consolidated financial statements for additional information.

The Amended Credit Agreement contains financial covenants requiring us to maintain (A) a maximum net leverage ratio, as adjusted for certain items, of 4.0 to 1.0, and (B) a minimum interest coverage ratio, as adjusted for certain items, equal to or greater than 2.5 to 1.0. We were in compliance with all covenants and had no borrowings under our Amended Credit Agreement at December 31, 2016. We expect to remain in compliance with these covenants through at least the next year.

We had cash, cash investments and short-term bank deposits of approximately $1.2 billion at December 31, 2016. Our cash and cash investments consist of overnight interest bearing money market demand accounts, time deposit accounts, and money market mutual funds containing government securities and treasury obligations. While we attempt to diversify these investments in a prudent manner to minimize risk, it is possible that future changes in the financial markets could affect the security or availability of these investments. Our short-term bank deposits consist of time deposits with maturities of 12 months or less.

Of the $1.2 billion and $1.7 billion of cash, cash investments and short-term bank deposits we held at December 31, 2016 and 2015, respectively, $618 million and $630 million, respectively, is held in our foreign subsidiaries. If these funds were needed for our operations in the U.S., their repatriation into the U.S. would not result in significant additional U.S. income tax or foreign withholding tax, as we have recorded such taxes on substantially all undistributed foreign earnings, except for those that are legally restricted.

We utilize derivative and hedging instruments to manage our exposure to currency fluctuations, primarily related to the European euro, British pound and the U.S. dollar; commodity cost fluctuations, primarily zinc and copper; and interest rate fluctuations, primarily related to debt issuances. We review our hedging program, derivative positions and overall risk management on a regular basis. Beginning in 2016, we decided to significantly reduce our utilization of derivative and hedging activity for commodity cost fluctuations by settling positions at their scheduled maturity while not entering into new transactions.

In the third quarter of 2016, we increased our quarterly dividend to $.10 per common share from $.095 per common share. During 2016, we repurchased nearly 15 million shares of our common stock for cash aggregating $459 million.

Our current ratio was 2.0 to 1 and 1.4 to 1 at December 31, 2016 and 2015, respectively. The increase in the current ratio was due to the net debt reduction of $400 million during 2016 resulting from the refinancing of our debt, which reduced current liabilities by approximately $1 billion at December 31, 2016 compared to December 31, 2015.

Cash Flows

Significant sources and (uses) of cash in the past three years are summarized as follows, in millions:

	2016				2015				2014
Net cash from operating activities	$	726			$	699			$	602
Retirement of notes	(1,300		)		(500		)		—
Purchase of Company common stock	(459		)		(456		)		(158		)
Cash dividends paid	(128		)		(126		)		(117		)
Dividends paid to noncontrolling interest	(31		)		(36		)		(34		)
Capital expenditures	(180		)		(158		)		(128		)
Debt extinguishment costs	(40		)		—				—
Acquisition of businesses, net of cash acquired	—				(41		)		(2		)
Cash distributed to TopBuild Corp.	—				(63		)		—
Issuance of TopBuild Corp. debt	—				200				—
Issuance of notes, net of issuance costs	889				497				—
Proceeds from disposition of:
Property and equipment	—				18				16
Financial investments, net	32				9				63
Decrease in debt, net	(1		)		—				(2		)
Proceeds (purchases) of short-term bank deposits, net	40				26				(20		)
Effect of exchange rate changes on cash and cash investments	(34		)		(15		)		(45		)
Other, net	8				31				(15		)
Cash (decrease) increase	$	(478	)		$	85			$	160

Our working capital days were as follows:

	At December 31,
	2016			2015
Receivable days	49			46
Inventory days	54			52
Accounts Payable days	70			69
Working capital (receivables plus inventories, less accounts payable) as a percentage of net sales	11.3	%		11.1	%

Net cash provided by operations of $726 million consisted primarily of net income adjusted for non-cash and certain other items, including depreciation and amortization expense of $134 million, deferred income taxes of $130 million and other non-cash items, including stock-based compensation expense and amortization expense related to in-store displays, partially offset by changes in working capital and contributions to our defined-benefit pension plans.

Net cash used for financing activities was $1,046 million, primarily due to the early retirement of all of our $1 billion, 6.125% Notes which were due October 3, 2016 and all of our $300 million, 5.85% Notes which were due March 15, 2017, $459 million for the repurchase and retirement of Company common stock (as part of our strategic initiative to drive shareholder value, and includes 1.1 million shares repurchased to offset the dilutive impact of long-term stock awards granted in 2016), $128 million for cash dividends paid, $40 million for debt extinguishment costs and $31 million for dividends paid to noncontrolling interest. This usage was partially offset by the issuance of $400 million of 3.5% Notes due April 1, 2021 and $500 million of 4.375% Notes due April 1, 2026.

In September 2014, our Board of Directors authorized the repurchase of up to 50 million shares for retirement of our common stock in open-market transactions or otherwise, replacing the previous Board of Directors authorization established in 2007. At December 31, 2016, we had remaining authorization from our Board of Directors to repurchase up to an additional 12.9 million shares of our common stock. Consistent with past practice and as part of our strategic initiative, we expect to repurchase the remainder of these shares in 2017. The timing of these share repurchases will depend on market conditions. Some of these shares will be purchased to offset any dilution from long-term stock awards granted as part of our compensation programs.

Net cash used for investing activities was $124 million, and included $180 million for capital expenditures, partially offset by $40 million net proceeds from the sale of short-term bank deposits and $32 million cash received from financial investments, primarily related to the early redemption of our auction rate securities.

We continue to invest in our manufacturing and distribution operations to increase our productivity, improve customer service and support new product innovation. Capital expenditures for 2016 were $180 million, compared with $158 million for 2015 and $128 million for 2014. For 2017, capital expenditures, excluding any potential 2017 acquisitions, are expected to be approximately $200 million. Depreciation and amortization expense for 2016 totaled $134 million, compared with $133 million for 2015 and $167 million for 2014. For 2017, depreciation and amortization expense, excluding any potential 2017 acquisitions, is expected to be approximately $130 million. Amortization expense totaled $10 million, $11 million and $10 million in 2016, 2015 and 2014, respectively.

Costs of environmental responsibilities and compliance with existing environmental laws and regulations have not had, nor do we expect them to have, a material effect on our capital expenditures, financial position or results of operations.

We believe that our present cash balance and cash flows from operations are sufficient to fund our near-term working capital and other investment needs. We believe that our longer-term working capital and other general corporate requirements will be satisfied through cash flows from operations and, to the extent necessary, from bank borrowings and future financial market activities.

Consolidated Results of Operations

We report our financial results in accordance with GAAP in the United States. However, we believe that certain non-GAAP performance measures and ratios, used in managing the business, may provide users of this financial information with additional meaningful comparisons between current results and results in prior periods. Non-GAAP performance measures and ratios should be viewed in addition to, and not as an alternative for, our reported results under GAAP.

Sales and Operations

Net sales for 2016 were $7.4 billion, which increased three percent compared with 2015. Excluding acquisitions and the unfavorable effect of currency translation, net sales increased four percent compared to 2015. The following table reconciles reported net sales to net sales excluding acquisitions and the effect of currency translation, in millions:

	Year Ended December 31
	2016				2015
Net sales, as reported	$	7,357			$	7,142
Acquisitions	(6		)		—
Net sales, excluding acquisitions	7,351				7,142
Currency translation	68				—
Net sales, excluding acquisitions and the effect of currency translation	$	7,419			$	7,142

Net sales for 2016 were positively affected by increased sales volume of plumbing products, paints and other coating products and builders' hardware, which, in aggregate, increased sales by approximately five percent compared to 2015. Net sales for 2016 were also positively affected by favorable product mix of cabinets and windows, and net selling price increases of North American windows and North American and international plumbing products, which, in aggregate, increased sales approximately one percent. Net sales for 2016 were negatively affected by lower sales volume of cabinets and lower net selling prices of paints and other coating products, which, in aggregate, decreased sales by approximately two percent.

Net sales for 2015 were positively affected by increased sales volume of plumbing products, paints and other coating products, windows and builders' hardware, which, in aggregate, increased sales by approximately four percent compared to 2014. Net sales for 2015 were also positively affected by net selling price increases of plumbing products, cabinets and windows, which, in aggregate, increased sales approximately one percent. Product mix of North American cabinets and windows also positively affected 2015 net sales. Net sales for 2015 were negatively affected by lower sales volume of cabinets and lower net selling prices of paints and other coating products.

Net sales for 2014 were positively affected by increased sales volume of North American plumbing products, paints and other coating products, builders' hardware and North American windows. Net sales for 2014 were also positively affected by net selling prices for cabinets, international plumbing products, and windows. Net sales for 2014 were negatively affected by lower sales volume of cabinets and by lower net selling prices of paints and other coating products.

Our gross profit margins were 33.4 percent, 31.5 percent and 29.4 percent in 2016, 2015 and 2014, respectively. The 2016 and 2015 gross profit margins were positively affected by increased sales volume, a more favorable relationship between selling prices and commodity costs, and the benefits associated with business rationalization and other cost savings initiatives. 2016 gross profit margins were negatively impacted by an increase in warranty costs resulting from a change in our estimate of expected future warranty claim costs.

Selling, general and administrative expenses as a percent of sales were 19.1 percent in 2016 compared with 18.7 percent in 2015 and 19.2 percent in 2014. Selling, general and administrative expenses as a percent of sales in 2016 reflect certain variable expenses, such as strategic growth investments, as well as ERP system implementation and higher insurance costs. Selling, general and administrative expenses as a percent of sales in 2015 reflect increased sales and the effect of cost containment measures.

The following table reconciles reported operating profit to operating profit, as adjusted to exclude certain items, dollars in millions:

	2016				2015				2014
Operating profit, as reported	$	1,053			$	914			$	721
Rationalization charges	22				18				64
Income from litigation settlements	—				—				(9		)
Gain from sale of property and equipment	—				(5		)		—
Operating profit, as adjusted	$	1,075			$	927			$	776
Operating profit margins, as reported	14.3		%		12.8		%		10.3		%
Operating profit margins, as adjusted	14.6		%		13.0		%		11.1		%

Operating profit margins in 2016 and 2015 were positively affected by increased sales volume, a more favorable relationship between selling prices and commodity costs and the benefits associated with business rationalizations and other cost savings initiatives. Operating profit margin in 2016 was negatively impacted by an increase in warranty costs resulting from a change in expected future warranty claim costs and certain variable expenses, such as strategic growth investments, as well as ERP system implementation and higher insurance costs. Operating profit in 2015 was negatively affected by foreign currency translation.

Other Income (Expense), Net

Other, net, for 2016 included net gains of $5 million from distributions from private equity funds, $3 million from the redemption of auction rate securities and $2 million of earnings from equity investments. Other, net for 2016 also included losses from the disposition of other investments of $3 million, realized foreign currency losses of $3 million and other miscellaneous items.

Other, net, for 2015 included net gains of $6 million from distributions from private equity funds and $2 million of earnings from equity investments. Other, net, for 2015 also included realized foreign currency losses of $14 million and other miscellaneous items.

Other, net, for 2014 included net gains of $4 million from distributions from private equity funds and realized foreign currency gains of $5 million and other miscellaneous items. Income from financial investments, net, for 2014 included losses from equity investments, net, of $2 million.

Interest expense was $229 million in 2016 and $225 million in 2015 and 2014. Interest expense increased in 2016 due primarily to the $40 million of additional interest expense in connection with the early retirement of debt, partially offset by the interest savings due to the discharge of indebtedness.

Income and Earnings Per Common Share from Continuing Operations (Attributable to Masco Corporation)

Income and diluted income per common share from continuing operations for 2016 were $491 million and $1.47 per common share, respectively. Income and diluted income per common share from continuing operations for 2015 were $357 million and $1.03 per common share, respectively. Income and diluted income per common share from continuing operations for 2014 were $821 million and $2.28 per common share, respectively.

Our effective tax rate on income from continuing operations was 36 percent tax expense, 43 percent tax expense and 71 percent tax benefit in 2016, 2015 and 2014, respectively. The 2016 effective tax rate includes a $14 million charge to tax expense from the elimination of a disproportionate tax effect resulting from our auction rate securities being called by our counterparty during 2016. This charge was offset by a $13 million tax benefit from the recognition of a deferred tax asset on certain German net operating losses primarily resulting from a return to sustainable profitability. Refer to Note S to the consolidated financial statements for additional information.

Compared to our normalized tax rate of 36 percent, the variance in 2015 is due primarily to a $21 million valuation allowance against certain deferred tax assets of TopBuild recorded as a non-cash charge to income tax expense. The TopBuild deferred tax assets have been impaired by our decision to spin off TopBuild into a separate company that on a stand-alone basis as of June 30, 2015, the spin off date, was unlikely to be able to realize the value of such deferred tax assets as a result of its history of losses.

The 2015 effective tax rate also includes a $19 million charge to income tax expense to recognize the required taxes on substantially all undistributed foreign earnings, except for those that are legally restricted. This charge was

the result of our determination that we may need to repatriate earnings from certain foreign subsidiaries that were previously considered permanently reinvested in order to provide greater flexibility in the execution of our capital management strategy.

The variance from our normalized tax rate in 2014 is due primarily to changes in the U.S. Federal valuation allowance and reversal of an accrual for uncertain tax positions.

Outlook for the Company

We continue to successfully execute against our long-term growth strategies by leveraging our brand portfolio, industry-leading positions, and Masco Operating System, our methodology to drive growth and productivity. We believe we will continue to see strong demand for our market-leading products, as the fundamentals for long-term demand in both repair and remodel and new home construction continue to be positive. We believe that our strong financial position, together with our current strategy of investing in our industry-leading branded building products, our continued focus on innovation and our commitment to operational excellence and disciplined capital allocation will allow us to drive long-term growth and create value for our shareholders.

Business Segment and Geographic Area Results

The following table sets forth our net sales and operating profit (loss) information by business segment and geographic area, dollars in millions.

													Percent Change
	2016				2015				2014				2016 vs. 2015			2015 vs. 2014
Net Sales:
Plumbing Products	$	3,526			$	3,341			$	3,308			6	%		1	%
Decorative Architectural Products	2,092				2,020				1,998				4	%		1	%
Cabinetry Products	970				1,025				999				(5	)%		3	%
Windows and Other Specialty Products	769				756				701				2	%		8	%
Total	$	7,357			$	7,142			$	7,006			3	%		2	%
North America	$	5,834			$	5,645			$	5,377			3	%		5	%
International, principally Europe	1,523				1,497				1,629				2	%		(8	)%
Total	$	7,357			$	7,142			$	7,006			3	%		2	%

	2016				2015				2014
Operating Profit (Loss): (A)
Plumbing Products	$	642			$	512			$	512
Decorative Architectural Products	430				403				360
Cabinetry Products	93				51				(62		)
Windows and Other Specialty Products	(3		)		57				47
Total	$	1,162			$	1,023			$	857
North America	$	961			$	841			$	643
International, principally Europe	201				182				214
Total	1,162				1,023				857
General corporate expense, net	(109		)		(109		)		(145		)
Income from litigation settlements	—				—				9
Total operating profit	$	1,053			$	914			$	721

	2016			2015			2014
Operating Profit (Loss) Margin: (A)
Plumbing Products	18.2	%		15.3	%		15.5	%
Decorative Architectural Products	20.6	%		20.0	%		18.0	%
Cabinetry Products	9.6	%		5.0	%		(6.2	)%
Windows and Other Specialty Products	(0.4	)%		7.5	%		6.7	%
North America	16.5	%		14.9	%		12.0	%
International, principally Europe	13.2	%		12.2	%		13.1	%
Total	15.8	%		14.3	%		12.2	%
Total operating profit margin, as reported	14.3	%		12.8	%		10.3	%

(A)	Before general corporate expense, net, and certain income from litigation settlements; refer to Note P to the consolidated financial statements for additional information.

Business Segment Results Discussion

Changes in operating profit margins in the following Business Segment and Geographic Area Results discussion exclude general corporate expense, net, and income from litigation settlements.

Business Rationalizations and Other Initiatives

Over the last several years, we have taken several actions focused on the strategic rationalization of our businesses including business consolidations, plant closures, headcount reductions and other cost savings initiatives. For the years ended December 31, 2016, 2015 and 2014, we incurred net pre-tax costs and charges related to these initiatives of $22 million, $18 million, and $64 million, respectively.

We continue to realize the benefits of our business rationalizations and continuous improvement initiatives across our enterprise and expect to identify additional opportunities to improve our business operations, although we do not anticipate that the costs and charges related to our ongoing commitment to continuous improvement will be as significant as they have been in prior years.

During 2016, our Plumbing Products segment incurred costs of $13 million primarily related to plant closure costs in Canada and at our international operations, as well as severance costs across multiple businesses. Our Cabinetry Products segment continued to incur costs and charges of $8 million primarily related to cost savings initiatives in North America. Lastly, our Windows and Other Specialty Products segment incurred costs of $1 million related to severance at our U.S. windows business.

During 2015, our Plumbing Products segment incurred costs of $9 million primarily related to severance and other cost savings initiatives across multiple businesses. Our Cabinetry Products segment continued to incur costs and charges of $5 million primarily related to cost savings initiatives in North America. Our corporate office incurred $4 million in costs primarily related to severance actions.

During 2014, our North American cabinet business incurred costs and charges of $31 million primarily related to actions taken to sell two previously idled manufacturing facilities. Our corporate office incurred $27 million in costs primarily related to severance actions. Finally, we incurred $6 million of costs and charges across our business units related to other cost savings initiatives.

Plumbing Products

Sales

Net sales of Plumbing Products increased six percent in 2016 compared to 2015, primarily due to increased sales volume of both North American and international operations, partially offset by foreign currency translation, which reduced sales by one percent compared to 2015.

Net sales in this segment increased one percent in 2015 compared to 2014. Net sales increased primarily due to increased sales volume of both North American and international operations, which increased sales by five percent, and net selling price increases primarily related to international operations, which increased sales by two percent. An acquisition also positively impacted sales by one percent compared to 2014. Foreign currency translation reduced sales by seven percent compared to 2014, primarily due to the stronger U.S. dollar. Excluding the impact of foreign currency translation, segment sales increased by eight percent in 2015 compared to 2014.

Net sales in this segment increased in 2014 primarily due to increased sales volume of both North American and International operations. This segment was also positively affected by increased net selling prices of International plumbing products.

Operating Results

Operating margins in the Plumbing Products segment in 2016 were positively impacted by increased sales volume, a favorable relationship between selling prices and commodity costs (including the positive impact of the metal hedge contracts), and the benefits associated with business rationalization and other cost savings initiatives. Such increases were partially offset by an increase in certain variable expenses, such as strategic growth investments and higher insurance costs, as well as unfavorable product mix.

Operating margins in this segment in 2015 were negatively impacted by unfavorable product mix, as well as an increase in certain variable expenses, such as trade show and marketing expenses and legal-related expenses. Such decreases were partially offset by increased sales volume and a favorable relationship between selling prices and commodity costs (including the negative impact of the metal hedge contracts). Although operating margins were not

significantly impacted, foreign currency translation, primarily due to a stronger U.S. dollar, negatively impacted operating profit by six percent compared to 2014.

Operating margins in this segment in 2014 were positively affected by increased sales volume, a more favorable relationship between selling prices and commodity costs (including the positive impact of the metal hedge contracts), lower business rationalization expenses and the benefits associated with business rationalization activities and other cost savings initiatives.

Decorative Architectural Products

Sales

Net sales of Decorative Architectural Products increased four percent in 2016 compared to 2015. Net sales increased primarily due to increased sales volume of paints and other coating products related to our BEHR PRO® business and core-DIY products, as well as builder's hardware. Such increases were partially offset by lower net selling prices of paints and other coating products.

Net sales in this segment increased in 2015, primarily due to increased sales volume of paints and other coating products related to the expansion of the BEHR PRO business and increased sales volume of builders' hardware. Such increases were partially offset by lower net selling prices of paints and other coating products and an unfavorable currency impact of Canadian paints and other coating products sales.

Net sales in this segment increased in 2014, primarily due to increased sales volume of paints and other coating products related to new product introductions and other growth initiatives and increased sales volume of builders' hardware, partially offset by lower net selling prices of paints and other coating products.

Operating Results

Operating margins in the Decorative Architectural Products segment reflect increased sales volume of paints and other coating products and builders' hardware, partially offset by an unfavorable relationship between selling prices and commodity costs of paints and other coating products.

Operating margins in this segment in 2015 reflect operational efficiencies due to benefits associated with cost savings initiatives, a more favorable relationship between selling prices and commodity costs and increased sales volume of paints and other coating products and builders' hardware. Such increases were partially offset by an increase in advertising and display expenses. Operating margins were also negatively impacted by unfavorable currency effects from our Canadian operating results due to the stronger U.S. dollar in 2015.

Operating margins in this segment in 2014 reflect a less favorable relationship between selling prices and commodity costs, a less favorable product mix of paints and other coating products and costs for new product introductions and advertising. Such decreases more than offset the benefits associated with cost savings initiatives.

Cabinetry Products

Sales

Net sales of Cabinetry Products decreased five percent in 2016 compared to 2015. Net sales decreased primarily due to lower sales volume of cabinets resulting from our deliberate exit of certain lower margin business in the direct-to-builder channel in the U.S. and other accounts in the U.K., which, in aggregate, decreased sales by 10 percent compared to 2015, and a stronger U.S. dollar which decreased sales by one percent compared to 2015. Such decreases were partially offset by a favorable product mix of North American and international cabinets and net selling price increases of North American cabinets, which, in aggregate, increased sales by six percent compared to 2015.

Net sales in this segment increased three percent in 2015 compared to 2014. Net sales increased primarily due to a favorable product mix and net selling price increases of North American and international cabinets, which, in aggregate, increased sales by six percent compared to 2014. Net sales decreased due to decreased sales volumes in both North America and international cabinets, which on a combined basis decreased sales by three percent compared to 2014.

Net sales in this segment in 2014 decreased primarily due to lower sales volume and a less favorable product mix of North American operations. Such decreases were partially offset by increased net selling prices in North America and increased sales volume and a more favorable product mix of international cabinets.

Operating Results

Operating margins in the Cabinetry Products segment in 2016 were positively affected by operational efficiencies due to the benefits associated with business rationalization activities and other cost savings initiatives, a favorable product mix, and a more favorable relationship between selling prices and commodity costs primarily at our North American cabinets business. This increase was partially offset by decreased sales volume in North American and international cabinets.

Operating margins in this segment in 2015 were positively affected by operational efficiencies due to the benefits associated with business rationalization activities and other cost savings initiatives and decreased business rationalization expenses. Operating margins were also positively affected by a more favorable relationship between selling prices and commodity costs and a favorable product mix.

Operating margins in this segment in 2014 were negatively affected by lower North American sales volume and the related under-absorption of fixed costs as well as increased business rationalization expenses. Operating margins were also negatively affected by a less favorable product mix. Such declines more than offset a more favorable relationship between selling prices and commodity costs and the benefits associated with business rationalization activities and other cost savings initiatives.

Windows and Other Specialty Products

Sales

Net sales of Windows and Other Specialty Products increased two percent in 2016 compared to 2015. Net sales increased primarily due to increased net selling prices of North American windows and a favorable product mix of North American and international windows, which, on a combined basis, increased sales by four percent compared to 2015. An acquisition positively impacted sales by one percent compared to 2015. These increases were partially offset by a stronger U.S. dollar which decreased sales by three percent compared to 2015.

Net sales in this segment increased eight percent in 2015 compared to 2014. Net sales increased primarily due to increased sales volume and a favorable product mix of North American windows in the Western U.S., which, on a combined basis, increased sales by seven percent compared to 2014. An acquisition positively impacted sales by one percent compared to 2014. This segment was also positively affected by net selling price increases, increased sales volume and a favorable product mix of our U.K. windows business compared to 2014. A stronger U.S. dollar decreased sales by two percent compared to 2014.

Net sales in this segment increased in 2014 primarily due to more favorable product mix, increased net selling prices and increased sales volume of North American windows in the Western U.S. This segment was also positively affected by a more favorable product mix and increased net selling prices of our U.K. windows business. A weaker U.S. dollar also increased sales. Such increases were partially offset by lower sales volume and lower net selling prices of staple gun tackers and other fastening tools.

Operating Results

Operating margins in the Windows and Other Specialty Products segment decreased in 2016 due to an increase in warranty costs primarily resulting from a change in our estimate of future warranty claim costs, as well as increases in certain other expenses, such as higher labor costs and ERP system implementation costs at our North American windows business. Such costs were partially offset by a more favorable relationship between selling prices and commodity costs of U.S. windows.

Operating margins in this segment in 2015 reflect higher sales volume and favorable product mix of windows in the Western U.S., and a more favorable relationship between selling prices and commodity costs of windows in the U.S. and U.K. Such increases were partially offset by an increase in certain expenses, such as advertising and ERP system implementation costs in 2015.

Operating margins in this segment in 2014 reflect a more favorable relationship between selling prices and commodity costs, a more favorable product mix of U.S. and U.K. windows and increased sales volume in the Western U.S. Such positive results were partially offset by lower sales volume and lower net selling prices of staple gun tackers and other fastening tools.

Geographic Area Results Discussion

North America

Sales

North American net sales in 2016 were positively impacted by increased sales volume of paints and other coating products, plumbing products and builders' hardware, which more than offset decreased sales volume of cabinets. In aggregate, sales volume increased North American sales by three percent compared to 2015. A favorable product mix of cabinets and windows, in aggregate, increased sales by one percent compared to 2015. Increased net selling prices of windows, plumbing products and cabinets, in aggregate, also increased sales by one percent compared to 2015. Such increases were partially offset by lower net selling prices of paints and other coating products.

North American net sales in 2015 were positively impacted by increased sales volume of plumbing products, paints and other coating products, windows and builders' hardware which more than offset negative sales volume of cabinets. In aggregate, sales volume increased North American sales by approximately four percent compared to 2014. Net sales were also positively impacted by a favorable product mix of North American cabinets and windows, which in aggregate, increased sales by approximately one percent compared to 2014. Net sales were also positively affected by increased selling prices of cabinets, plumbing products and windows, which increased sales by approximately one percent compared to 2014. An acquisition also positively impacted sales by one percent compared to 2014. Such increases were partially offset by foreign currency translation, primarily due to the stronger U.S. dollar and lower selling prices of paints and other coating products.

North American net sales in 2014 were positively impacted by increased sales volume of plumbing products, paints and other coating products, builders' hardware and windows. Net sales were also positively affected by increased selling prices of cabinets and windows. Such increases were partially offset by lower sales volume of cabinets and lower selling prices of paints and other coating products.

Operating Results

Operating margins from North American operations in 2016 were positively affected by the benefits associated with business rationalization and other cost savings initiatives. North American operations were also positively affected by increased sales volume, a more favorable relationship between selling prices and commodity costs, as well as a favorable product mix. Such increases were partially offset by an increase in warranty costs and certain other expenses, such as higher labor costs, ERP system implementation costs, strategic growth investments and insurance costs.

Operating margins from North American operations in 2015 were positively affected by increased sales volume, as well as a more favorable relationship between selling prices and commodity costs. North American operations were also positively affected by the benefits associated with past business rationalization and other cost savings initiatives and decreased business rationalization expenses.

Operating margins from North American operations in 2014 were positively affected by increased sales volume, as well as a more favorable relationship between selling prices and commodity costs. North American operations were also positively affected by the benefits associated with past business rationalization and other cost savings initiatives.

International, Principally Europe

Sales

Net sales from International operations increased by two percent in 2016 compared to 2015. In local currencies (including sales in foreign currencies outside their respective functional currencies), net sales increased six percent compared to 2015, due primarily to increased sales volume of plumbing products, which increased sales by six percent compared to 2015. Net sales were also positively impacted by a favorable product mix of cabinets and windows, and increased net selling prices for plumbing products, which, in aggregate, increased sales by one percent compared to 2015. These increases were partially offset by lower sales volume for cabinets, which decreased sales by one percent compared to 2015.

Net sales from International operations decreased by eight percent in 2015 compared to 2014, due primarily to a stronger U.S. dollar in 2015. In local currencies, net sales increased five percent compared to 2014, primarily due to increased selling prices and sales volume for plumbing products. An acquisition also positively impacted net sales by one percent compared to 2014, partially offset by lower sales volumes for cabinets.

Net sales from International operations increased in 2014, primarily due to increased selling prices and sales volume for plumbing products, a more favorable product mix of cabinets and windows and a weaker U.S. dollar.

Operating Results

Operating margins from International operations in 2016 were positively affected by increased sales volume and a more favorable relationship between selling prices and commodity costs of plumbing products. These increases were partially offset by certain variable expenses, including strategic growth investments.

Operating margins from International operations in 2015 were negatively affected by unfavorable product mix and increased costs to support future sales growth initiatives, partially offset by a more favorable relationship between selling prices and commodity costs, primarily related to plumbing products. Although operating margins were not significantly impacted, foreign currency translation, primarily due to a stronger U.S. dollar, negatively impacted operating profit by 14 percent compared to 2014.

Operating margins from International operations in 2014 were positively affected by a more favorable relationship between selling prices and commodity costs, primarily related to plumbing products.

Other Matters

Commitments and Contingencies

Litigation

Information regarding our legal proceedings is set forth in Note U to the consolidated financial statements, which is incorporated herein by reference.

Other Commitments

We enter into contracts, which include reasonable and customary indemnifications that are standard for the industries in which we operate. Such indemnifications include claims made against builders by homeowners for issues relating to our products and workmanship. In conjunction with divestitures and other transactions, we occasionally provide reasonable and customary indemnifications. We have never had to pay a material amount related to these indemnifications, and we evaluate the probability that amounts may be incurred and we appropriately record an estimated liability when probable.

Recently Issued Accounting Pronouncements

Refer to Note A to the consolidated financial statements for discussion of recently issued accounting pronouncements, which is incorporated herein by reference.

Contractual Obligations

The following table provides payment obligations related to current contracts at December 31, 2016, in millions:

	Payments Due by Period
	2017				2018-2019				2020-2021				Beyond 2021				Other (D)				Total
Debt (A)	$	2			$	116			$	902			$	1,999			$	—			$	3,019
Interest (A)	168				324				259				586				—				1,337
Operating leases	44				60				35				50				—				189
Currently payable income taxes	7				—				—				—				—				7
Private equity funds (B)	2				3				—				—				—				5
Purchase commitments (C)	249				1				—				—				—				250
Uncertain tax positions, including interest and penalties (D)	—				—				—				—				55				55
Total	$	472			$	504			$	1,196			$	2,635			$	55			$	4,862

(A)	We assumed that all debt would be held to maturity.

(B)	There is no schedule for the capital commitments to the private equity funds; such allocation was estimated.

(C)	Excludes contracts that do not require volume commitments and open or pending purchase orders.

(D)	Due to the high degree of uncertainty regarding the timing of future cash outflows associated with uncertain tax positions, we are unable to make a reasonable estimate for the period beyond the next year in which cash settlements may occur with applicable tax authorities.

Refer to Note M to the consolidated financial statements for defined-benefit plan obligations.