Earnings Call: Q4 2014

Aug 6, 2014

Summary

FY14 delivered record sales, higher adjusted EPS and 15% Q4 adjusted segment margins despite significant restructuring costs. FY15 guidance targets $7.25–$8.05 adjusted EPS and 15.2%–15.9% adjusted segment margins, with growth and restructuring execution risks.

Good day, ladies and gentlemen, and welcome to the Parker-Hannifin Corporation fourth quarter and full year earnings conference call. My name is Crystal, and I will be the Operator for today. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. If at any time you require Operator assistance, please press star followed by zero, and we will be happy to assist you. As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Ms. Pamela J. Huggins, Vice President and Treasurer. Please proceed, ma'am. Thanks, Crystal. Good morning, everyone. It's Pam speaking. Just as Crystal's mentioned, I'd like to welcome you to Parker-Hannifin's fiscal year 2014 and fourth quarter earnings release teleconference. Of course, joining me today is Chairman, Chief Executive Officer, and President, Don Washkewicz, and Executive Vice President and Chief Financial Officer, Jon Marten. For those of you who wish to do so, you can follow today's presentation with the PowerPoint slides that are presented on Parker's website at www.phstock.com. For those of you not online, the slides will remain posted on the company's investor information website at www.phstock.com as well, and they'll be on there one year after today's call. At this time, reference slide number 2 in the slide deck, which is the safe harbor disclosure statement addressing forward-looking statements. Again, please take note of this statement in its entirety if you haven't already done so. This slide also indicates, as required, that in cases where non-GAAP numbers have been used, they have been reconciled to the appropriate GAAP numbers, and they're also posted on Parker's website. Slide number 3, we have the agenda here today. It consists of four parts. First, Don Washkewicz, Chairman, CEO, and President, will provide highlights for the quarter and the year. Second, I'll provide a review, including key performance measures, again, for the year as well as for the fourth quarter, concluding with the guidance for fiscal year 2015. The third part of the call will be our standard Q&A session. For the fourth part of the call, Don will close with some final comments. So at this time, I'll turn it over to Don and ask that you reference slide number 4, titled Highlights Fiscal Year 2014. Thank you, Pam, and good morning to everyone on the call. It's great that you're able to take the time to join our call today as we close out our 2014 fiscal year and update you on our progress. This was a transitional year for Parker, and there was a lot of noise in the numbers, as you've seen, and we'll get into that a lot more in the Q&A. However, the significance of this year was that we were able to complete the largest series of restructuring efforts in our history and still deliver strong operating performance that we projected going into the fiscal year. This positions us extremely well heading into fiscal 2015 and sets us up for continued excellent performance beyond that, and I'm talking about especially into 2016, considering the additional restructuring that we're undertaking. I'm very pleased with where we stand today. Talk a little bit about 2014, the entire year. We witnessed slow economic conditions early in the year, but saw improvement as the year progressed. We were able to deliver record sales in this low-growth environment. We also experienced increased year-over-year growth in orders for every quarter in fiscal year 2014. Our total segment operating margin was strong at 13.5%, or 14.3% adjusted for restructuring, and that was led by North America margins of 16.7% on an adjusted basis, and we are certainly very pleased with that performance. Earnings per share for the year increased 10%. The adjustments in this year's earnings included charges related to asset write-downs, a gain associated with a joint venture with General Electric Aviation, and our restructuring activities, all of which that we have discussed in prior quarters. Our restructuring activities required a significant amount of management attention, and our team was able to follow through on our commitments to complete those actions. In total, we incurred $104 million in pre-tax restructuring expenses, and that translates into about $0.49 per diluted share. Operating cash flow for the year was $1.4 billion, or 10.5% of sales, and I am really pleased with this. This is the 13th consecutive year we generated greater than 10% operating cash flow. Ever since we launched the Win Strategy, cash flow has been greater than 10% for every fiscal year thereafter. Our use of cash priorities remains the same as we have stated in the past. Number one is dividends. That is our first priority. Acquisitions would follow that, and then certainly share repurchases in that order. We have increased the dividend 7% this year, and that extends our longstanding dividend increase record to 58 consecutive fiscal years. We also repurchased $200 million of our own shares throughout the year, and that is a result of our 10b5-1 program, and that program will continue in fiscal 2015. Just a couple highlights on the quarter. We will go into a little bit more detail later, but sales were a quarterly record in the fourth quarter at $3.53 billion. That was good. Earnings for the quarter were $1.98 per diluted share, or $2.06, adjusted for $0.08 per diluted share in restructuring expenses. On top of that, we incurred additional one-time restructuring-related costs in the quarter, estimated at $0.10 per diluted share, and we can discuss that further, give you some ideas as to what those expenses were in the Q&A session. Segment operating margins were strong at 14.5% or 15% when adjusted for restructuring. Of course, as you know, 15% has been our target for some time. We are leaving this fiscal year at a pretty nice level here. Operating cash flow was also a quarterly record at just over half a billion dollars, or 16% of sales. Once again, we are in excellent position entering the new year. Just a comment on the outlook. Looking forward to fiscal 2015, we are anticipating another record year and have initiated guidance for adjusted earnings in the range of $7.25 to $8.05 per diluted share, or $7.65 at the midpoint. Keep in mind that the estimates are adjusted for approximately $0.25 per diluted share in additional restructuring efforts in 2015. Pam will now take you through a little bit more detail, review of the results. Thanks, Don. If everybody would reference slide number 6, I'll begin by addressing earnings per share for the quarter. If you go all the way to the far right side of this slide, adjusted EPS is detailed for fiscal year 2014 and fiscal year 2013. These numbers are adjusted for restructuring expenses, the joint venture gain, and the asset write-downs that we've previously discussed in prior earnings calls. Adjusted for the items just mentioned, earnings per share for the full year, fiscal year 2014 came in at $6.94, and this compares to $6.33 last year. Immediately to the left, adjusted earnings per share for the fourth quarter are detailed, and fourth quarter earnings are adjusted for restructuring expenses as well. It came in at $2.06 versus $1.80 for the same quarter last year, an increase of $0.26 or 14%. Restructuring, as Don said, was $0.08 for the quarter, and this compares to $0.02 last year. Full year restructuring cost for fiscal year 2014, it was $0.49, and this compares to $0.07 for fiscal year 2013. Just to clarify, because I know there was some confusion around this, but the $2.06, that the $0.08 has been added back to the $1.98, it does not include that additional $0.10 that was called out in the press release. Now moving to slide number 7, addressing the earnings per share. This lays out the significant components of the walk from the adjusted earnings per share of $6.33 that I just mentioned, moving to the $6.94 for fiscal year 2014. Here you can see that the significant items comprising the increase in our earnings per share in fiscal year 2014 versus last year is increased segment operating margin of $0.43, so healthy on the operating margin line, and lower below-the-line expenses of $0.13. This is mainly due to less pension expense that is classified in the other line below segment operating margin and lower interest cost. The lower tax rate also contributed $0.05. Moving to slide 8, addressing the quarter, and again, laying out the components of the walk from the adjusted earnings per share of $1.80 for the fourth quarter last year to the $2.06 for the fourth quarter of this year. Again, these numbers are adjusted for restructuring costs. The significant components comprising the increase, again, segment operating margins of $0.13. This is mainly due to North America and Aerospace offset by international, $0.05, and lower below-the-line expenses of $0.10. Again, due to lower pension expense of $0.05 and lower incentive compensation included in corporate G&A of $0.05. Then, of course, the lower tax rate contributed $0.03. Moving to slide number 9. Again, I adapt, this is a busy schedule, obviously, but if you'd go all the way to the right, the highlighted blue box. Sales adjusted for the joint ventures shown, and it shows an increase in sales for the full year of 2.5% versus fiscal 2013. Acquisitions and currency offsets, for the most part, resulting in little over 2% organic growth. In the fourth quarter, however, which is detailed in blue on the left, you can see that adjusted organic and reported sales increased 4%. It did pick up in the fourth quarter, 3.8% on an organic basis and 4.4% on a reported basis. Happy to see that. The difference between organic and reported is currency, which was positive in the quarter, adding another 0.6%. Looking at the adjusted margins for the full year. Excluding restructuring costs, they were 14.3% versus 13.9% last year. Nice improvement. For the fourth quarter, adjusted margins reached 15%, and this compares to 14.7% for last. Restructuring costs in the quarter, $18 million, which is the $0.18 that we talked about, versus restructuring costs last year of $4 million. As you know, restructuring costs for the year, as Don mentioned, $104 million. However, $2 million of that $104 million fell below the line in other, and $102 million, as detailed on this page, is included in segment operating income. The higher segment operating income this year of $1,892,000,000 versus $1,804,000,000 last year, it is really due to higher volume in Diversified Industrial North America and International, favorable product mix in North America, and then realignment savings or restructuring savings in International, offset by restructuring-related expenses. Let's move to slide 10 and address the segments, starting with North America. Again, on the right side of the page for the full year, North America and our reported revenues increased slightly to $5.69 billion, and that is from $5.68 billion last year. Adjusting for the unfavorable currency impact of a half percent, mainly Canadian currency, and the contribution from acquisitions of almost a point, organic growth increased close to 1%. Looking to the left and addressing the quarter, organic and reported revenues increased 4% in the fourth quarter of this year. Acquisitions had no impact on this segment, and the currency impact was minimal. Adjusted operating income for 2014 increased to $949 million from $911 million in fiscal year 2013. That is a 4% increase, mainly the result of higher volume, favorable product mix, and of course, tight cost control. Adjusted operating income for the fourth quarter increased to $269 million from $251 million for the same quarter last year, and again, mainly the result of higher volume. So moving to slide number 11, addressing Diversified Industrial International. Here for the full year, organic revenues increased 3%. Currency had no impact, and acquisitions increased revenue by a little less than a percent. As such, reported revenues increased 3.5% for the year, moving from $5.1 billion last year to $5.3 billion this year. The increased sales in this segment were due to higher volume in Europe, where sales actually increased 5.5%. For the fourth quarter, organic sales increased 1%. Currency contributed 2% to sales, resulting in a reported sales increase of slightly over 3%. Adjusting for realignment costs, operating margin for the full year increased to 12.7% from 12% as a result of this higher volume that I just mentioned. Then, of course, savings on the realignment activities, which were partially offset by realignment-related expenses. For the quarter, adjusted operating margins declined from 12.4% of sales to 11.2%. Again, this is due to the restructuring-related expenses that we have been mentioning and unfavorable product mix, partially offset by the higher volume and the savings from the restructuring activities. Restructuring costs in this segment were $17 million in the fourth quarter versus $3 million a year ago. So now moving to Aerospace. Reported and organic revenues, adjusted for the previously announced joint venture, increased slightly more than 4% in the year. The impact of acquisitions and currency, of course, negligible in this segment as it usually is. Revenues increased mainly due to higher commercial OEM business. For the quarter, revenues increased 8.6%, and this is mainly due to higher commercial OEM business. Operating margins for the year were relatively flat due to a higher mix of OEM versus MRO business, less defense business, of course, and unusual new program expenses. Adjusted operating margin for the fourth quarter increased to $105 million from $86 million for the same quarter last year, again due to the higher volume. Then we had multiple settlements relating to contractual negotiations included in those numbers. Let's move to orders. Just to remind everyone, these numbers represent a trailing average, and they are reported as a percentage increase of absolute dollars year-over-year, of course, excluding acquisitions, divestitures, and currency. Diversified Industrial uses a three-month average, while Aerospace Systems uses a 12-month average. As you can see from this slide, total orders were a positive 4% for the June quarter just ended. This represents four quarters of positive numbers. Diversified Industrial North American orders just ended increased 6%. International decreased 4% for the quarter. This is really a comp issue. We were up against a tough comparison. Aerospace, of course, increased 17% for the quarter. Going to the balance sheet. Parker's balance sheet remains strong. Cash and short-term investments on the balance sheet at year-end was $2.2 billion, partially offset by outstanding commercial paper of a little more than $800 million. DSI or days sales in inventory came in at 61 days, and this is a five-day improvement sequentially versus the third quarter. Inventory now is 10.4% of sales. This is an all-time record for Parker and an improvement versus last quarter, where inventory as a percent of sales was 11%. Accounts receivable, DSO closed at 48. This is a two-day improvement from last quarter as well as last year. Weighted average days' payable outstanding at the end of June was 58, again, a two-day improvement sequentially from the March quarter end. Moving to cash flow here. If you adjust for the pension contributions of $75 million and $226 million, respectively, in fiscal year 2014 and 2013, cash flow from operations of $1.5 billion or 11.1% of sales compares to $1.4 billion last year or 10.9% of sales. In addition to the cash flow from operation, proceeds of more than $200 million were received from investing activities. Addressing the major uses of cash in the year, $478 million returned to the shareholders via share repurchase of $200 million, and of course, our dividend payments of $278 million. Commercial paper outstanding paid down $515 million in the year, and we utilized $216 million or 1.6% in connection with CapEx. We also used $625 million in the purchase of marketable securities and other investments during the quarter. As a result of this and more, the cash on hand declined by about $168 million year-over-year. Moving to guidance for fiscal year 2015. Just to address the questions of why we would be providing guidance on an adjusted basis. This is the beginning of a new year for us. We have had requests to do that. We looked at it very seriously, and we said that, "Hey," we looked at the comps, we looked at the comparable companies to us, and all of them provided on an adjusted basis. At your request, this year, in line with our culture of continuous improvement, we're presenting the numbers on an adjusted basis, excluding restructuring. Sales growth is adjusted for the GE joint venture and segment operating margins and earnings per share exclude restructuring. On this slide, we've detailed adjusted sales growth, adjusted segment operating margins, below-the-line items, tax, shares outstanding, and reported and adjusted earnings per share. We give you a lot of information here. Beginning at the top, addressing sales, adjusted sales are expected to increase between 2% and 5%. The majority of this growth is organic, as there is no impact from acquisition carryover. The projection for currency contributes 0.4% of sales for the year. Remember, we don't forecast acquisitions that may be done next year in these numbers. Adjusted segment operating margins, they're forecasted to be between 15.2% and 15.9%. Very healthy segment operating margins, the midpoint of 15.6%. This compares to 14.3% for 2014 on an adjusted basis. The projection for below-the-line items, which includes corporate admin interest and other, is $490 million for the year. The full-year tax rate is projected at 29%. The number of outstanding shares that we used in the guidance is 151.4 million. For the full year, as Don said, guidance on an adjusted earnings per share basis is $7.25 to $8.05, midpoint $7.65. Again, this excludes restructuring of $50 million approximately to be incurred in fiscal year 2015. This is a partial carryover from 2014, a newly initiated restructuring, which is going to enhance the position of this company moving into fiscal year 2016. The effect of this restructuring on earnings per share is $0.25, with $0.07 each in the first and second quarter, $0.06 in the third quarter, and $0.05 in the fourth quarter. Just a couple of salient points with respect to guidance. Sales are divided 48% or $6.51 billion in the first half, 52% or $7.1 billion second half. Segment operating income, first half, second half is divided 44% in the first half, 56% in the second half. Earnings per share, first half, second half, 41%, 59%, or $3.15 billion in the first half and $4.5 at the midpoint in the second half, and this excludes restructuring. First quarter adjusted earnings per share is projected to be at $1.64 at the midpoint, and this excludes $0.07 of restructuring costs. Just to show you the walk from fiscal year 2014 up to the forecast or the guidance for fiscal year 2015. Again, the significant items comprising the increase segment operating margin of $1.11 and $0.74 of this is international, obviously because of all the restructuring that's taken place in this year. This is offset by a higher tax rate and higher but below-the-line expenses of $0.16, and this is due mainly to less favorable results from market-driven benefits. We have some benefits that are highly dependent on the performance of the market, and the market was very favorable last year, and we're not anticipating that it's going to be as favorable this year. So for published estimates, we please ask you to exclude the restructuring expenses and hopefully I explained why. So if everybody is ready at this time, we will commence with our standard Q&A session. Thank you very much. Ladies and gentlemen, at this time, if you would like to ask a question, please press star one. Questions will be taken in the order received. Please press star one to begin. Our first question will come from the line of Andrew Obin from Bank of America. Please proceed. Hi, Andrew. How are you? Hey. So the question on international margin in the fourth quarter, you did highlight the restructuring, but can you just talk about mix? Because it seems that operating profit was still down despite higher volume. And the question we have been getting from a lot of investors, is restructuring on track? Is that really what dragging the industrial margin, international margin? Can you talk about it in more detail? Yeah, Andrew, Jon here. For the international margins in Q4, one of the reasons that we decided to put into one of the major sub-bullets in the press release, that we wanted to make sure that we explained was, for the quarter, we only had $0.08 in restructuring. We had anticipated a little bit more than that. Part of that answer for the difference between those two numbers has to do with the FY 2015 guidance and the restructuring in FY 2015. To answer your questions directly, if you remember, we have $60 million in restructuring in Q3, and that's $60 million in restructuring in Q3. As we are executing on all of those restructurings, as we are starting to get reorganized, as we are starting to take a look at exactly what is required for us in the future, given the different levels of employment, given the different configurations of our factories, started to have an impact on us in ways that we had not expected fully. We had some additional costs that we're not used to seeing. We called out $0.10. I'm sure we could call out more than $0.10. That impacted our international margins. We look at that as a one-time impact to our international margins for Q4, for these restructuring-related costs. If you can imagine, trying to reconfigure our factories, trying to move product lines, trying to finalize all of the requirements of executing on all of these projects. Costs were incurred, and we wanted to make sure that we explained that in a very transparent way. Thank you. Just a follow-up question. Just to touch on capital allocation and specifically dividend. Over the past several months, I think a lot of your, well, not peers, but even machinery companies have raised their dividend payout ratios. Your dividend payout ratio now even lags Joy Global, forget about multi-industrial names. You have stated that dividend is the top priority for the company. How do I square the fact that you have one of the most stable cash flows of anybody and one of the lowest payout ratios of anybody? What do you guys think about that? Well, this is Don. Andrew, first of all, dividends is number one. There's no question about it. It's number one. We've done a lot with dividends over the last number of years. I think over the last five years, we're almost up 100%, somewhere in that vicinity. So it's not like we haven't done anything, and we recognize what you're talking about, that we were a little bit low. But the other things that have been happening here that, in a positive sense, is that we're generating a hell of a lot more money in this company. This is kind of a high-class problem. We're trying to catch up to where our performance has been running. In fiscal 2014, we increased the dividend about 7%. Last year, we increased it 10%. I stated that in this coming year, probably January timeframe, we'll be looking for another increase in the dividend. Our payout, our old target was 25%. Our new target's 30%. We're going to do that over a period of a couple of years. We're inching our way there. We're at about 27% right now, and we're going to be moving that up to 30. But it won't happen all at one time. We're planning to do it in a logical fashion, kind of a gradual fashion to get up to 30%. Of course, we want to maintain that 58-year record that we have, so we're going to continue this for the foreseeable future. I don't anticipate this ever stopping. We'll continue to raise dividends on out into the future. But 30 would only get you in line with machinery guys. Well, it all depends on what else we have that we're trying to do here, too. I think the other priorities are acquisitions. We have done a lot of acquisitions in the past. We anticipate to continue to want to do acquisitions. So our priority beyond maintaining some reasonable parity with the rest of the pack is to grow the company and put the money into acquisitions and new product development and things like that. So if we don't have good places to put the money, of course, we can always go back to dividends and hit dividends a little bit harder in the future. I don't anticipate that's going to be the case, at least not in the foreseeable future, but it could be down the road. Thank you very much. Thanks, Andrew. Our next question will come from the line of Ann Duignan from JP Morgan. Please proceed. Hi, good morning, guys. How are you? Good morning, Ann. It's still the same me. Can we just talk a little bit more about the restructuring and the issues that you had there? Is this just simply moving product lines has been more difficult, or are you finding that you have to do more restructuring because things are just not very bright in Europe and in the rest of the world? Just a little bit more around what actually is going on in the restructuring. Yeah, Ann, this is Don. I guess I can maybe add a little bit to what we've said earlier. I've been through enough restructurings in my career, so I can tell you pretty much firsthand that this is nothing different than what we've seen in the past. We just haven't done one this big in the past. A lot of this has to do with closing facilities, opening facilities in other locations. You got more scrap, you got lower productivity in the new place. You got people that, frankly, are working at a slower pace knowing that they're going to lose their jobs, so that's production variance in the existing locations anticipating a move to the new location. So you got some of that going on. There were some profit-sharing issues that we ran into through negotiations in one of the countries that cost us a little bit more. This is a one-time thing. Then we have some ongoing challenges from the standpoint that in some of the contracts that we negotiated in a particular region, some of that's hinged on the actual expense. The specific expense will depend on the ability of the employees that were let go, them finding work. So some of that is variable and still yet to be determined, but that happens as well. A couple other areas that you got to keep in mind is the overlap. When you're closing in one factory, you're starting up in another factory or moving product lines, you're double staffing. You got to keep the staff in the old facility while you're moving to the new facility because you got to still serve the customer while you're going through this training period. I like to use the example of running a product, say at 50 feet a minute is normal in the old facility or existing facility. You do not start up at 50 feet a minute in the new facility. You start out at 10 and maybe go to 20 and then 30 and 40. So over a period of time, you get up to that efficiency that you are running in the old facility. But in the meantime, you are generating variances. All these variances that I am talking about are flowing through our P&L, and believe me, they are impossible to capture. Jon was talking earlier about $0.10. $0.10 is just the top portion of that we are trying to grasp. But nobody is out there monitoring every nit here, as we go through this restructure. We have got more important things to do. We just know that the number is a lot bigger than that, but we are just letting that flow through to P&Ls. The other things that you might run into, and I know we did, cleaning up the old factory. As you prepare to pack, as you clean it out and you get it ready to sell, you have got to clean it up, you have got to clean up the surroundings and whatever. That is all expense that flows through the P&L. Then air freight. I could give you an example, but I will not, of air freight as to where we found some of our air freight. It was an unfortunate situation that happened with a plane crash. But air freight is certainly part of the challenge because you have got facilities that are not running at the same speed that they should be. Customers still want the product when they want it, so we put more product in the air. All those additional expenses end up flowing through to P&L. So I know that is a lot, but that is basically what we are faced with, and we are not able to capture every penny of that, and we are not trying to. We captured $0.10 pretty easily, but there is probably another two or three times that flows through to P&L we are not even capturing. Okay, Don, that is good color. So in summary, I just want to make sure that what you are saying is that it is not that demand is weaker than you expected in international markets and you have to cut deeper, it is just that getting through all of the changes that you have laid out is just costing you more. Am I interpreting that correctly? That's correct. It's the inefficiencies of moving operations from a status quo to something else than a status quo. That's exactly right. Okay, and then just my follow-up question. If you could give us your normal color on your T12s and 1212s by end market, that'd be great. Okay. Well, maybe I'll start with the PMIs. Yes. I like to kind of go through those. Just looking at those, and we look at these on a monthly basis and on a quarterly basis. We typically track all of them here, but the ones that I look at closely are the global PMI, the U.S., the Eurozone, Germany, being a good representative of a stronger country in Europe, and China and Brazil. So those are kind of the ones we look at. Just characterize with three points what we're seeing. First of all the PMIs are greater than 50, which is a good sign, with one exception, and that's Brazil, which is running at about 49. So that's good. All of those areas that I just mentioned are greater than 50. The largest increase, or the largest PMI increases, I should say, from March to July timeframe, were in two areas. One was U.S. and the other was China, and both of those increased 3 points, which is a pretty strong increase. We don't often see a 3-point jump, but both in the U.S. and in China, we saw 3-point jumps. The largest PMI in absolute numbers right now is in North America and the U.S., which is running at about 57. So that's a real strong rate of activity in North America. So that's kind of the PMI trend. If you look at some of our markets, I'm going to give you some of the strong ones. Actually, the list of strong ones, it's getting pretty long relative to the negative market trends and the flat ones. The strong ones would be commercial and A commercial aftermarket in OEM on the Aerospace Systems side, that's a strong segment for us. Distribution remains strong, extremely strong. I'll talk a little bit about the three 12s there in a minute. Machine tools, power generation, telecom, oil and gas, marine, off-highway construction and mining, all strong. Mining, of course, coming off of a low base, but you're seeing some pickup in activity there, even though it's at a low level. Also strong right now, when you look at the three 12s and 1212s, is the heavy-duty trucks. Lastly, on the refrigeration and air conditioning side, both industrial and commercial refrigeration, and then residential and commercial air conditioning are both positive. So you can see that's a pretty long list. But I'd have to say, being led by distribution, keeping in mind distribution's half of our North America, half of our industrial business, rather, is distribution. Having that segment being that strong, I think helps offset some of the weaker OEM segments that we see. On the negative side or negative trends, we would have the defense part of our Aerospace Systems business, both on the OEM and MRO. Semiconductor being negative now. Farm and ag finally turned negative. That had been going strong for some time, and that's turned negative. Forestry, and then general industrial segments. So those would be the negative ones, but you can see the list is relatively short. Flat segments would be, market segments or market trends would be life sciences, cars and light trucks, process and industrial trucks, and material handling. So those would be the flat segments. If we look at the regions, and you see some of this in your number, you don't see quite this detail in the order trend number, but I'll just highlight for you what the regions look like on a three 12, 1212. Of course, North America being very strong right now, three 12 tracking well above 100, in the neighborhood of 106, 107, and at 1212, well above 100 as well. We see a weakening trend in Europe. Not significant, but nevertheless, a weakening trend on a three 12, just slightly under 100. So that's actually going to drag the 1212 down a little bit. 1212 is still tracking slightly above 100. Flat segment would be Asia. Three 12 is running around 100. 1212 is running a little bit above 100. A weakening trend is Latin America, and that's dropped down on a three 12 basis to about 90. When you look at the order trend numbers we give you on a quarterly basis, we don't give you quite that same detail, but I'm giving you a little bit more color here on those specific segments that you wouldn't normally see. Then looking at some of those markets that I talked about before on an order trend basis. Again, distribution being strong at the three 12 level on distribution's around 110. You can see that's a real strong segment for us, and the 12 12 is running around 108, so that continues to be extremely strong. Heavy-duty truck, likewise, is running around 110 on a three 12, which is really good. Improving is construction, although at a lower level, that we're seeing that slightly above 100% on a three 12. Semiconductor, I mentioned, is softening. That's running around 80 on a three 12. Ag is weakening. That's around 85 on a three 12. Again, these are our numbers, our order entry numbers. They might not match exactly what you see in the rest of the marketplace or with other peer companies or whatever. This is what we're seeing. Process markets are flat. Then Aerospace, of course, is very strong at three 12, running around 120. But keep in mind there, a lot of these orders can be out further than this fiscal year. In fact, in many cases here in Aerospace, they are out beyond this fiscal year. So that would be kind of a recap on the markets and some of the order trends. Okay, Don. Thanks so much. I'll get back in line. Appreciate the color. Thanks, Ann. Our next question will come on the line of Joe Ritchie from Goldman Sachs. Please proceed. Hi, good morning, everyone. Good morning, Joe. My first question is on the Industrial International guidance and specifically the margins. If you take a baseline of an adjusted margin of 12.7% for this year, you are still looking for, at the midpoint, 250 basis points in margin expansion in Industrial International. Clearly, there are a variety of different moving parts. You called out the $0.10 in one-time costs. There is some kind of underlying incremental margin number that you are embedding, but there are also benefits that are expected to come through. I was wondering if you could touch on those three key points, and what your expectations are for the margin ramp for next year. Well, I think, Joe, in Diversified Industrial International for next year, by our worksheets that we have here, we are showing that we are going to first recoup all the savings that we had from this year, which is for the entire year at around $60 million. We will also get some of the savings that we are incurring in the restructuring that we are doing for FY 2015 in the margins for International, because most of the restructuring that we are doing in FY 2015 is affecting the international operations. Or industrial. Then with a very modest marginal return on sales for the industrial international at the beginning of the year, and then ramping up as the year goes on. This gets to what Pam was talking about, the 41/59 EPS impact first half, second half. The major driver there is what we are expecting as the year goes on for the international margins for us. So yes, it is a big number. We have detailed it out in a great amount of detail. We note your notation of it too here, because we are expecting that to really help drive our record results for next year. Okay. I guess maybe just following on there are a couple follow-ons to that. One, can you quantify the FY 2015 restructuring savings that you expect to come through? Then further, it seems like you took on additional costs to the tune of $0.10, call it roughly $20 million. How do you gain comfort that while you are going through this restructuring, that you are not going to continue to see additional costs pop up? Well, number one, Joe, that will be a risk. We feel like we have got it monitored in there for FY 2015. As Don talked about, we do not do this all the time. We are not experts at it. What we did in FY 2014 was the biggest in the history of the company by a factor of more than five times. So we are not experts at it, but we do feel like that as we were putting our estimates together for FY 2015, that all of our operating groups around the world were in the midst of those issues. So we have got that duly geared into our estimates for FY 2015 by unit, by region for the year. Then to answer your other question, Joe, we are expecting of the $50 million in restructuring for next year, $23 million in pre-tax savings. Okay. And then in the quarter, I think you called out some, I think you said specifically in the Aerospace segment, there were some multiple settlements to contract negotiations. Yes. What was the impact of that to the quarter? I don't have that number on the top of my head, but to give you a sense of what that is, our guidance for next year is about 150 basis points better than our return on sales for this year. So we feel like our go forward run rate for next year is 13.5. So whatever that 13.5 versus that result for the Q4, that would be, in round numbers, the unusual lumpy, in this case for this quarter, good news in our results. So we wouldn't want to give you the impression that we can hit that run rate that we saw in Q4 going forward. Does that answer your question, Joe? Yeah, I guess I can follow up after for the exact number, but- Yeah appreciate you taking my questions. Thank you. Sure enough. Our next question will come from Nathan Jones from Stifel. Please proceed. Good morning, Don, Jon, Pam. Good morning, Nathan. Don, let's start with my same question every quarter. You've obviously got a very strong balance sheet. You haven't got any M&A across the line for about six quarters now. Why no buyback? Well, Nathan, you haven't been paying attention. We did get one across the line. Anything of meaningful size. It was a tiny one, though, Nathan. Anyway. With respect to acquisitions, first of all, I just have to tell you where we're at on that. We're looking at a lot. There's no question we're looking at a lot. We are in due diligence on some right now, as we speak, and we expect to get some through. Still, the values are high, so it's a challenge on some of these getting to where you want to get to. For every 100 we look at, we maybe get through due diligence on 10. It's hard to predict just where we're going to end up. But we do have some activity going on as we speak, and we realize that we have plenty of capacity to do these, so this is where we'd like to spend the money. Having said that, as I said in the past, and I'll repeat just for everybody on the call, that if we don't get these across the finish line, our priority then falls to share repurchase. I told you last, I think it was last year, that I was going to do that by the end of this year, and this would be this calendar year, which we're closing out here in the next few months. We would go into the share repurchase mode if I don't get enough of these acquisitions to the finish line. Does that imply that it's your expectation or that some of these deals are pretty close to getting done? Well, in all different stages. I cannot predict, because every time I think that we're just about there, sometimes things happen and it just puts the brakes on. I can just tell you that we are in due diligence on several right now. We'll see. I'm cautiously optimistic that we'll get something or some of these through. Okay. My follow-up question is on the North American industrial margin guidance for next year. You have talked on the call today about distribution being very strong, above average growth, which is obviously a much higher margin for you. You have 5% midpoint organic revenue growth, and the margin guidance at the midpoint is flat. Is there some kind of pricing pressure or something else that is holding those margins back? I think that on that top level, Nathan, is our view of the marketplace, that we are at all-time record high margins for us in North America. As we were putting our guidance together for FY 2015, we, of course, have our target of 30% marginal return on sales at this stage of the cycle. But we could not get to that level. We are a little shy of that. As we dig into it a little bit deeper, there are various reasons for that. Most of the reasons have to do with our investments in some of our new technologies, our R&D that we are trying to do, trying to secure our growth for the future, and that is having an impact on the marginal return on sales in North America and our guidance for FY 2015. Could you quantify the impact of the investments in the R&D? I can tell you this, that it is broad-based. It is deep. We are focused on it in every single group. It is hard for me to give you a number right now, but that is certainly the lion's share, the vast majority of the difference for our normal 30 versus what you would see right now, which is about, as you said, 18 for 2015. So it is the lion's share, Nathan, but I cannot get any more granular than that with you here on this call today. Okay. That's helpful. Thanks, guys. Thank you, Nathan. Our next question will come from the line of Andy Casey from Wells Fargo Securities. Please proceed. Thanks a lot. Good morning, everybody. Hi, Andy. Just to go back to an earlier question and Jon's response to it, is the roughly flattish Q1 outlook for earnings driven entirely by an expectation that you need another quarter or two to clear out the international industrial issues? Or is there something else? Yeah. There's several different issues there, Andy. One of them is, again, our restructuring that we'll be doing in Q1. One of them is our investments in the R&D that we're in the midst of in many of our North American operations. When you dig into it and you look at Q1 and our guidance versus Q1 last year, there is a significant number that is negative for us in the FY 2015 guidance due to our tax rate that we're going to be using, which is 29%, and which assumes our run rate here for FY 2015. Okay, thank you. On the $0.16 headwind from corporate interest and other, could you give a little bit more color as to what's going on there? Yeah. One of the things I want to mention as well, Andy, we had a pickup in pension expense last year of about $0.17, and that doesn't repeat this year as well. That is affecting the first quarter as well as all of the quarters. I just wanted to mention that. Then as far as corporate, we have always said that corporate runs about 1.5% of sales. Last year, it did run a little less than that, and this year it's running about at the 1.5% of sales. But again, it gets back to what I said earlier. We have some incentive programs that are based on the performance of the market, and the market performed very well last year, and it's not expected to perform at that same level. We haven't built that in. That's really the difference that you're seeing there. Okay. Thank you very much. Thank you. Our next question will come from the line of Eli Lustgarten from Longbow Research. Please proceed. Good morning, everyone. Good morning. Can we talk a little bit more about some of the top-line assumptions there, I guess? I am surprised that Aerospace Systems also shows a negligible adjusted change of a couple of percent given the concentration orders. Have things been pushed out, or what is going on? As a side, can you talk about the R&D spending there, because that is what is driving the margins up. Then the same question for Diversified Industrial North America. With the long lines of favorable T12s and 1212s curves, I guess I am sort of a little surprised that you are running with a low-to-mid single-digit type of top-line gain at this point. Well, Eli, first on the Aerospace Systems answer. The major driver there that is impacting us for FY 2015 is our inability to generate revenues due to the sequestration, which now is finally catching up with us. If you take a look at a couple major programs Military OEM programs, they are starting to impact us in FY 2015. Those two major programs is what is really taking our prior run rate in Aerospace Systems at about 8%, in normal times will be around 4% or 5%. We are also seeing the impact in FY 2015 of the elimination of sales due to the closure of the joint venture that we did with our engine partner in FY 2014. So that is impacting the numbers also as you look at the guidance for it. Eli, I thought the 3% was an adjusted number against the already taken out the JV. If you've got the GE JV in your numbers there, the major driver then is the two military OEM programs, JSF, C-17 which are impacting us and is having an impact on us and what is the major reason for taking down our historical growth rates that we've seen in the past year. Will that be it for the foreseeable future, in other words, until we get some sort of change of policy, do we have to carry that over into 2016, the same basis? Certainly, the C-17 is very grim right now. So that would be one half of it. The JSF could come back, but I think the growth rates for Aerospace, normalized going forward, past FY 2015 would be in the 5%-6% range. Not the numbers that you're seeing here for some of the gaps that we're seeing here for FY 2015. And Eli, for your question on North America. We felt like that those numbers are in line with what we're seeing with our orders. I know the distributions are up significantly, but when we're doing that guidance, of course, as you know, it includes the OEM, and that drives that number down a little bit. And so we felt like that's a number that really fairly represents what's been happening with the orders for North America over time, which is very healthy for us as Don has talked about. And that number is why you have relatively flat margins for North America. Well, relatively flat only because of our investment in R&D that we're really focusing in on. And again, Eli, we're at the 16%, 17% ROS range there, and those are record levels for us. We've done that before, but we've not done appreciably higher than that before, ever. We want to. We are aspirational, and we expect that, but this is not something that we would put in our full year guidance for FY 2015. Well, you know we always want more, but they are terrific margins. Thank you. I appreciate that, Eli. Our next question will come from the line of Mig Dobre from Robert W. Baird. Please proceed. Yeah, good morning, everyone. Would you care to comment about order cadence, maybe through the quarter? Anything that you might have seen maybe in August thus far, or rather July? I think that, first for July is supportive of our guidance. I do not want to give you any overly optimistic response or a pessimistic response. It is just kind of supportive of our guidance in July. I think that is probably the question that you are getting to. We are looking at it very carefully, and, of course, we are aware of the macro picture, and we understand where the markets are moving and where they are trending, as Don laid out in the three 12s. We are right now comfortable with our guidance. Okay, then if I may press you a little bit here. I am looking at Diversified Industrial International, and I understand that the quarter had a tough comp from an order standpoint, but your orders were down 4%, and you are guiding for revenue growth for FY 2015. I am trying to understand, given that your comps are getting tougher going forward, where is it that you are expecting acceleration? Any particular region or end market? What gives you that confidence? Yeah, I think that on that, by region, and I appreciate you pointing out the tough comps because that is clearly an issue for us here for the international. But we are seeing Asia start to very slowly but surely move up, and we have got a projection out there for almost 3.5% growth for Asia for us altogether in FY 2015, much less so in Europe and negative in Latin America. Appreciate it. Thank you. Our next question will come from the line of Jamie Cook from Credit Suisse. Please proceed. Hi. I guess good afternoon now. I'll just keep it short just because we're already post the hour. I guess just, Don, back to the balance sheet again. The M&A's taken longer to happen. The div payout ratio is still below your peers. You haven't really done much on the share repurchase. I mean is there, as we think about the end of the calendar year 2014, where you drew the line in the sand, is there a way for us to how we should think about, a targeted, debt-to-capital ratio? How should we think about that towards the end of the year? Because your balance sheet still is underutilized, or are you backing away from having a more efficient balance sheet? Thanks. Well, good question, Jamie. No, we'd like to ultimately have a more efficient balance sheet for sure. And like I said, it'll be meaningful, if we don't get the acquisitions done because it's been, like you said, a year and a half now, we've been talking about this. We've got a couple of tiny ones through, but that's not going to move the needle. So, if we don't do something, it'll be a meaningful share repurchase, let me put it that way, and that'll be moving in the direction of getting our leverage back up. Maybe not as high as it was in the past, but certainly up considerably from where we are right now. And then going on into the next year, I would say that same trend would continue. If we don't do the acquisitions, we will be prompt and do the share repurchase, and our dividend increases, like I mentioned before, because we do want to raise the dividend over time. But I think we'll be able to do both, especially with the level of margin performance that we're generating here, earnings performance. I think we'll be able to do both. All righty. Thanks. I'll get back in queue. Okay. Thanks, Jamie. I think at this time, we're running over. We'll take two more questions. Who's next on the line, please? Our next question will come from the line of Stephen Volkmann from Jefferies. Please proceed. Great. Hi, good afternoon. Most of my questions have been answered, but I'm just curious, and I apologize if this is a slightly impolite question, Don, but I think you're probably going to retire in this coming fiscal year. Please correct me if I'm wrong, but if I'm not, is there anything you'd like to tell us about what that transition might look like timing-wise or anything else? Well, I knew we should have cut that question. You had your chance. Yeah, we have a policy here, which I haven't changed, that is a 65 years age policy as far as retirement from this position. So, that will happen this calendar year, this coming calendar, 2015, and the exact date has not been finalized with the board. I think that those discussions are happening as we speak. Our intent would be to, my intention would have my replacement come from inside the company, and I think we have some very good candidates in the company under consideration. So that's what I can tell you right now is that, yes, you're correct. 2015 would be the year that I would step down as CEO. The question then going beyond that would be in what capacity, if any, would I continue with the company, and of course, that has to be decided by the board as well. But for sure, the President CEO title would be given up sometime this year. So it sounds like you're telling me calendar 2015, and I said fiscal 2015. Is that a distinction you're trying to make? No. Actually, my birthday doesn't come until next fiscal, so technically, I could stay on beyond this fiscal year. But that's why I just say it's the calendar year. Got it. Thanks so much. Thanks, Steve. If you want to, I can tell you what day that is if you want to send anything. I would be happy to. All right. Our final question will come from the line of Nicole from Morgan Stanley. Please proceed. Yeah, thanks for taking my question. Hi, Nicole. Hi there. Just a quick clarification, Pam. When you guys gave the EPS breakdown from one half to two half, did you say that was including restructuring? Yeah. We gave adjusted guidance that excludes restructuring. And we're asking that you put your estimates out there under the same- Okay. So when you said the 41% to 59% breakdown, that was excluding restructuring as well? That is correct. Okay, got it. The restructuring, is that going to be, it seems like you guys are expecting to realize the bulk or all of the payback next year. Is it fair to assume that the restructuring is going to be front-end loaded as well? Well, right now it's about 60% front-end loaded. Yeah. But there will be some in the second half, Nicole. We want to make sure that we say that to you, too. Okay. Perfect. Okay, that's all I had. Thank you very much. Okay. Okay, thank you. I think at this time, we'll turn it over to Don, who has some closing comments. Yeah, just a couple of comments, and then I'll make some additional remarks. First of all, some things to remember about fiscal 2015 that we covered here, just kind of a recap, is that we're going to have another $50 million in restructuring. I look at that as a positive as far as the outlook for the future. Just keep that in the back of your mind. We're projecting record operating margins for next fiscal year. If you take the restructuring out, we'll be at a record. If you include it in the numbers, we'll tie at an all-time record for the company. The restructuring we did this fiscal year was exactly what we needed to be working on and produced exactly the kind of results that we wanted to produce going forward to build on this foundation that we have. I'm really excited about where we're at and what it means for fiscal 2015. I hope everybody's happy with the 15.6% numbers that we're putting out there as far as operating margins. 3% growth, I think is, hey, if some of these segments come back, like if Europe comes back or if Latin America comes back, if anything comes back, it can grow from that base. We feel comfortable with the 3% based on what we see happening out there right now. Of course, we're going to have an opportunity to refresh that with you every quarter going forward. If we see something strengthening, we can certainly change that top-line number. We feel pretty confident now. As you mentioned, we have a strong balance sheet, and I appreciate the comments about how we're going to utilize the capacity that we have. I hope that I was clear as to what our intent is. Yes, we do want to move our leverage up back to where it used to be or closer to that point. So we will be taking actions this calendar year to do that one way or the other. I think if it's not too much of a stretch, if you look at the restructuring we were planning to do in 2015, and you look at the fact that we're already at 15.5% or 15.6% operating margin, we, and I'll be the first one to go out and say this, maybe I'll get hit here by the rest of my team, but 16 by 16 might be in the cards. As long as we maintain some tailwind here, I think you can see we're within striking distance of that. That would be a fantastic accomplishment for the company. Again, I'm not here forecasting 2016 for you. I just want to give you an indication of how you might be thinking about long-term forecasts for the company. I think we're certainly Don so much this last year to position ourselves for a great 2015 and beyond that I think you're going to like the answer as we go forward. I want to just lastly then, just thank everyone on the call for joining us. Of course, like I said, this has been a transitional year, and it was necessary to go through this right-sizing, if you will, of our operations, particularly in Europe. Those changes are never easy, and they're not easy on the team. The management team worked very hard on this, and I'm happy to say that we accomplished what we set out to accomplish, and we hit our targets that we wanted to do. I also like to take this opportunity to thank our global team for their diligence and hard work in executing all of our fiscal 2014 plans. Like I said, we're in much stronger position now to deliver on our goal of 15% segment operating margins in fiscal year 2015, and really now, even more so over the cycle. That's kind of where we're heading here as we move these margins up. We want to hit that 15 over the cycle, and I think we're well on our way to be able to do that. I want to thank everyone on the call for your continued interest and support of the company and want to wish everyone a great day. Just lastly, Pam will be around for the balance of the day. If you have any additional questions, she'll be taking calls along with Todd throughout the balance of the afternoon. So have a good day. Thank you. Ladies and gentlemen, that concludes today's presentation. You may now disconnect. Have a great day.