Jul 27, 2008
Executives
Dee Johnson – Director IR John Stroup – President and CEO Gray Benoist – CFO and VP of Finance.
Analysts
Matt McCall – BB&T Capital Markets Jeff Beach – Stifel Nicolaus Celeste Santangelo – Merrill Lynch Jonathan Braatz – Kansas City Capital Nat Kellogg – Next Generation Equity Research Kevin Sarsany – Galet Keith Johnson – Morgan Keegan
Operator
Good day, ladies and gentlemen. Thank you for standing by.
Welcome to this morning's Belden Incorporated Conference call. Just a reminder, this call is being recorded.
At this time, you are in a listen-only mode. Later, we will conduct a question and answer session.
(Operator instructions) Now, at this time I would like to turn the call over your host, Ms. Dee Johnson, Director of Investor Relations at Belden.
Please go ahead, ma'am.
Dee Johnson
Thank you, Trisha. Good morning everyone and thank you for joining us today for the second quarter earnings conference call at Belden.
With me here in St. Louis today are John Stroup, President and CEO of Belden, and Gray Benoist, Vice President of Finance and Chief Financial Officer.
Some logistics. We have slides on the web.
To see those, please go to investor.belden.com and sign onto the web cast there. There are also posted, so you can print them.
There's no www. It's just investor.belden.com and if you need a copy of our press release, you'll find that on that web site as well.
During the call today, management will make certain forward looking statements. I would like to remind you that any forward looking information we provide is given in reliance upon the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995.
The comments we will make today are management's best judgment based on information currently available. Our actual results could differ materially from any forward looking statements that we might make.
However, the company does not intend to update this information to reflect developments after today, and disclaims any legal obligation to do so. Please review today's press release and our annual report on Form 10-K for a more complete discussion of factors that could have an impact on the company's actual results.
This morning, John will begin with comments about the performance of the business in the second quarter, Gray will review some additional financial results and segment analysis, and then John will speak about our outlook for the business for the remainder of 2008, and then we'll open the line for questions. So at this time, let's turn to our President and CEO, John Stroup.
John Stroup
Thank you, Dee. Good morning everyone.
Would you turn to slide 3 please. Today, we reported record adjusted earnings per share of $0.97 for the second quarter.
Adjusted net income grew 14.5% to $45.8 million and earnings per share grew even faster 23% year-over-year due to our share repurchase activity. As we said in our press release this performance is driven by our improved business portfolio and a number of margin improvement initiates were pursued over the past 2 years.
Turning to slide 4, our portfolio now includes a richer mix of highly engineered products including our industry leading Hirschmann, industrial Ethernet solution, our industrial connectivity business under both the Lumberg and Hirschmann brands and our growing enterprise connectivity business. We continue to reverse by ourselves [ph] geographically with now 30% of our revenue in EMEA, 20% in Asia and only 40% in the United States, and we have a better mix of vertical markets having exited the telecom cable business completely and bringing more products and marketing resources to bear on attractive verticals like industrial automation.
In addition to our improving revenue mix, we have focused attention and resources on margin expansion initiatives across the manufacturing in commercial themes. We restructured our North American cable manufacturing footprint in 2006 and 2007, building a new plant in Mexico and closing 5 plants in the United States and Canada, programs that are providing significant savings as planned.
We are now 2 years into the implementation of Lean Enterprise Methods in our business both in manufacturing and in the back office. The benefits of Lean include increased productivity.
Lean underlies our category leadership in productivity and inventory utilization. We are continuously working on the management of our product portfolio.
This quarter, LTK, a $300 million business, has improved our operating margins by about 100 basis points year-over-year through improved product positioning. Throughout Belden there are many daily product portfolio management decisions that optimize operating margin dollars at the expense of low quality revenue.
Turning to slide 5, second quarter revenue grew 8.7% sequentially and 1.2% year-over-year. Adjusting for acquisition, divestitures, and currency translation our organic growth was negative 2.4%.
Belden America and the specialty products division, our two North American segments, experienced strong sequential growth of 8% but not as strong as their sequential growth one year ago which was about 18%. We had an exceptionally strong 2007 second quarter in North America due to strong demand into the backlog we carried over from the first quarter.
This made for a difficult year-over-year comparison in this quarter. We again faced tough price competition in certain lower spec industrial products, a recurrence of the competitive situation we talked about in the first quarter.
This small category was up 23% for us sequentially as we did not meet competitive pricing to hold on to volume at unacceptable margins. Organic growth in Europe of 7% was led by exceptional strength in our industrial Ethernet and industrial connectivity product groups due to solid end markets, the secular trend in industrial Ethernet and a healthy European economy.
The German machine builders who are important customers for our Lumberg industrial connectors continue to perform very well. We are winning some important spec positions with (inaudible) global customers for our industrial solution combining Ethernet switches, connectors, and copper and fiber cables in one solution.
These wins I am speaking of represent future sales not sales of the second quarter, but we are more confident than ever in the execution of our industrial solutions strategy. In our Asia segment, organic growth was 6% and included the impact of aggressive portfolio actions in LTK as planned.
Our capacity in Asia is better utilized for the localization of Belden products and growth of higher value LTK products. In the first half of 2008, for example, organic growth in Asia for Belden Networking Solutions has been 47%.
Turning to slide 6, I would like to spend a few minutes talking about the acquisition of Trapeze Networks. The transaction, which we announced in June closed about 10 days ago.
We held a special conference call which is still on our web site, if you like to hear the details. Two of the most powerful ideas in Belden’s strategy are that there is more value for both the customer and our company in solutions rather than components, and that we will best serve our customers if we can offer solutions in all media, copper, fiber, and wireless so that we are not depending on one technology versus another but rather, can really listen to what our customers want and respond accordingly.
We have been talking to our customers about wireless for the past 18 months. We took the time necessary to understand the most appropriate solution and sort out the best.
What we found in Trapeze is the wireless LAN company with the greatest technical capability and the most secure scalable network management systems. We paid $133 million which was roughly 1.9 times 2008 forecasted shipment and compares favorably to the valuation for example of Aruba [ph].
A number of investors have told us they wish the timing of this had been different, but we believe that we would paid more than twice this price a year ago and that the timing actually favored Belden. We know our enterprise customers are interested in having Belden provide a wireless solution along with our copper and fiber solutions and we believe that the longer term we will see much greater integration of wired and wireless network management solutions in which Trapeze will excel.
Also, because we have a much larger sales force than Trapeze has, we are confident we can accelerate Trapeze sales growth around the world. Belden meets a lot of enterprise customers and we have now turned loose the Belden sales force to drive wireless leads to Trapeze.
The purchase price represents about 8 months of Belden cash flow, a moderate size investment and what think will be one of the central pillars of our strategy over the long term. Because of a large tax net operating loss to Trapeze, the deal was cash neutral to Belden in 2008 and cash positive in 2009.
There is an accounting situation that makes Trapeze dilutive to EPS on a GAAP basis, but that is accounting dilution rather than economic dilution. The president of Trapeze, Jim Vogt, will report to me directly and we put incentives in place for Trapeze management based on achievement of EBITDA goals.
Our integration plans are already in motion and I remain confident in our ability to successfully execute. Now moving on to manufacturing, I like to give you an update on two other changes we have underway and those are the planned closure of Connecticut plant and the move into our new plant in Huizhou, China.
We are on target to wind down production in our Connecticut plant and vacate the lease facility by September 1st. Most of the production from the Connecticut plant will move to Nogales, Mexico.
The Nogales plant has already built every item number that it is assuming in this move, because the Nogales plant is well along in its efficiency ramp up and there are no equipment moves required. This will be a much easier transition than we experienced in 2007.
Nevertheless, there may be some third quarter costs associated with the disruption of this move before the fixed cost savings start to help us in the fourth quarter. As we said, when we announced the plan to close this plant we are not expecting any net benefit from the closure in 2008, but we are filing for about $5 million of savings in 2009.
The new plant under construction in Huizhou, China, is a larger plant that will replace our LTK Shanghai plant with additional space and capacity to accelerate the localization of manufacturing of Belden branded products. We will be moving equipment and people a short distance, and we anticipate a relatively smooth transition to the new location.
Production of LTK products will begin in the new facility in October and production of Belden products will begin to ramp in December. Because of the increased freight expense we are presenting incurring in transporting cable to China, we believe this move is essential to having the necessary cost structure to compete in this growing market.
Equally important will be improving availability and lead times for Belden in Asia that will make us a more effective supplier, and I'm going to turn the call to Gray for more discussion of the business results. Gray?
Gray Benoist
Thank you very much, John. Good morning everyone and thank you for joining us this morning.
I'll begin my comments with a discussion of the consolidated results of operations for the second quarter, then turn to the segment results, followed by cash flow, asset management, and working capital. Second quarter revenue of $556.3 million was an increase of 1.2% year-over-year.
Primarily a strengthened Euro created a translation benefit of $28 million in our year-over-year sales. In the calculation of organic growth we need to make certain additional adjustments.
The second quarter of 2007 included sales generated from the Czech telecom operation and the Czech assembly businesses both of which we sold last year. Also, the second quarter of 2008 must be adjusted for Lumberg automation which we did not own until May 2007.
Taking these elements into consideration, year-over-year organic revenue growth was a negative 2.4% for the quarter. Sequential revenue growth, however, was 8.7%.
Let's take a look at our revenue mix on slide eight please. Starting on the left, revenue in the United States was 41%, Canada 6%, Europe 27%, and Asia 21%, continuing our intended diversification of regional revenue for the better balanced geographical representation of our served markets as we have been discussing over the past year.
The pie chart on the right depicts revenue by vertical markets. Revenue in the industrial market expanded to 45% of total revenue.
Sales in this vertical grow both sequentially and the year-over-year driven by excellent performance in the Hirschmann and Lumberg brands, which more than offset the challenges we are addressing in North America with respect to low end industrial cable products. The networking vertical was 26% of our revenue.
Revenue growth in the attractive segment of this vertical represented by fiber, F6 and above, cable, and connectivity grew in many of our geographies, but most notably in Asia. The video, sound, and security market was about 12% of total revenue.
The transportation of defense vertical remains at 4% and the consumer electronics and the consumer OEM markets served by LTK was about 13% of our revenue again this quarter. Our adjusted results are on slide nine.
In the second quarter, GAAP earnings per diluted share were $0.89. We had several nonrecurring items which affected these results.
As we mentioned in our press release, we incurred a one-time pension settlement expense of $1.8 million pretax with respect to last year's restructuring of our Canadian operations. Activity related to the closing of our Connecticut plant announced in the first quarter and which we are in the process of closing here in the third quarter we incurred severance expenses of about $900,000 and an accelerated depreciation adjustment of about $700,000 in the fourth.
We also had about $600,000 of expense in Europe for severance and other restructuring costs in that segment. I would like to focus the remainder of my comments on adjusted results without these charges.
For your benefit reconciliations between GAAP and adjusted results have been provided as part of today's press release and are also available at the end of today's slide presentation. Gross profit margin was 30.3% in the second quarter representing an expansion of 100 basis points sequentially and 110 basis points year-over-year.
Adjusting for certain cost reclassifications between COGS, R&D, and SG&A we discussed last quarter, the year-over-year improvement in gross margin was 80 basis points. John talked about the many drivers of margin expansion which include the richer product mix with excellent performance at Hirschmann and Lumberg in the quarter.
Margin expansion was widespread with Belden Americas, Europe, and Asia all are generating year-on-year margin expansion with lower year-on-year margins reported in our specialty business. Company’s Lean Enterprise Initiative and continuous effort in product portfolio management have driven sustainable improvements.
With respect to the regional manufacturing rationalization program and our commitment to deliver $26 million in annual savings in 2008, the second quarter results included an incremental $3 million in additional savings sequentially, and $6 million year-over-year. If I can have you turn to slide 10 please, we'll discuss SG&A.
Second quarter SG&A expenses were $88.6 million or 15.9% of revenue. In comparison to 2007 as you might recall, we are not breaking out R&D as we do today and going forward.
Thus prior year SG&A includes R&D expenses of that period. In an apples to apples comparison, SG&A is flat in dollar terms sequentially and year-over-year.
We note that currency translation added $6 million to SG&A year-over-year. Furthermore, we continue to invest in our newly created global sales and marketing organization as well as other strategic initiatives an increase of $2 million this quarter compared to a year ago.
The current challenging global economic environment demands continuing cost vigilance in both manufacturing and back office operations and the second quarter results were achieved by establishing good cost controls in all of these segments. R&D expense was $10 million in the second quarter compared with $9.1 million in the first quarter of 2008 and $8.2 million a year ago.
Investments in new product development in Hirschmann remains a critical difference for the product families, and an increase in overall R&D spend is consistent with their technology and attractive growth profiles that they pursue. I will mention that our R&D investments in advanced technology will expand further in the first quarter with the inclusion of Trapeze, another technology driven business.
Other income in the quarter, which represents the income from nonconsolidated manufacturing and marketing joint ventures in China was $2 million. We had indicated an expectation of nonoperating income at about a million dollars per quarter.
So, $2 million of income this quarter is an especially good position based on the growing and substantial free [ph] business in China, but not the level we expect to repeat regularly. Slide 11 and we'll discuss interest expense and income taxes.
Interest expense for the quarter includes a $1.9 million charge related to interest payable in Canada levied by the local tax authorities with respect to the unfavorable resolution of tax contingencies Belden inherited from the pre-acquisition period of the former CDT operations in Canada. GAAP requires that these interest charges run through the income statement.
The tax payment with respect to these unfavorable resolutions as well as the interest on such tax for pre-acquisition period totaled $5.3 million and were accounted for under purchase accounting, an increase to goodwill. We have recorded associated with the acquisition of CDT by Belden in July of 2004.
Income tax expense was $19.5 million in the adjusted results was 29.9% of pretax income for the quarter. The effective tax rate on other year-to-date adjusted results was 29.7% and consistent with our expectation.
We continue to reflect the impact of lower tax rates on income earned in jurisdictions outside of the United States. This impact has become more material for the company with our 2007 acquisitions of Hirschmann and Lumberg automation operations in Germany and the LTK operations in Hong Kong and China.
Our full year outlook for the effective tax rate remains unchanged at 30%. One slide 12, we have comments with respect to the share repurchase.
During the 2008 second quarter the company repurchased 854,000 shares of its common stock at an average price of $37.51 for a total outlay of $32 million. During the first two quarters of 2008, we repurchased 1.7 million shares of our common stock at an average price of $38.96 for a total outlay of $68.3 million.
This completes the share purchase program authorized in August of 2007. Under this program, Belden repurchased 2.4 million shares of its common stock at an average price of $41.14 for a total outlay of $100 million.
Our average diluted shares for the second quarter were 47.5 million shares. Like to discuss segment results, if I could ask you to turn to slide 13 please.
External revenue of the Belden America segment was $200.1 million, increasing 7.4% sequentially but 9.8% lower than a year ago. Interdivisional sales were $19.4 million.
Including the interdivisional sales, total shipments of Belden Americas were $219.5 million. Segment operating income adjusted by $2.1 million for the Canadian restructuring pension charge and a small loss on disposal of equipment from one of the plants closed in 2007 mentioned earlier was $42.3 million or 19.3% of total segment revenues compared with 18.9% in second quarter of 2007.
Americas segment year-over-year margin expansion in the quarter reflects the businesses realization of the savings associated with the regional manufacturing efforts initiated in 2006 and continued in 2007 and the improved contribution of our Nogales operation in Mexico. The specialty product segment's external revenue in the second quarter was $59.7 million, which is lower by 7.6% compared with the second quarter a year ago.
The division's revenue from affiliates was $18.2 million which was flat sequentially or low by $5 million or 21% compared to a year ago. Actions taken in the Mohawk brand to correct pricing and address competitive issues helped enabled sequential revenue growth of 11.6% in operating profits adjusted by $1.6 million for restructuring charges to expand to $11.7 million or 15.1% of revenue an improvement of 520 basis points sequentially compared with 9.9% in our first quarter.
EMEA segment's external revenue was $199.3 million in the second quarter, a 13% increase year-over-year and an 8% increase sequentially. Affiliate revenue of $5.6 million was flat in both comparisons.
Operating income of the EMEA segment was 27 million or 13.2% of total revenue after adjusting for the restructuring charges of $600,000. This is a 180 basis point improvement sequentially and the 430 basis points improvement year-over-year.
The Asia Pacific segment had second quarter external revenues of $97.3 million, a sequential increase of 11.2% and upper 11.5% year-over-year even with the aggressive portfolio management actions that impacted sales but raised operating margins at LTK. Segment operating income was $11.3 million or 11.6% of revenue representing operating margin expansion compared with 10.2% in the first quarter and 10.1% a year ago.
We are proud once again to be the (inaudible) cable of choice for the Beijing summer Olympics (inaudible) several million dollars of revenue in each of the last three quarters. Turning to the balance sheet and on slide fourteen we'll talk about cash flow and working capital.
In our continuous efforts to improve Belden's exposure and transparency we have included a consolidated cash flow statement as part of today's press release. Previously not available for the filing of our Form 10-Q.
Accordingly, your analysis of our results and the questions you may have in specific financial figures can now be addressed directly through this statement. Questions for examples such as our level of pension funding for the previous FAS 123 R expense or our quarterly provision for inventory obsolescence or our exact share repurchase activity.
From this statement, free cash flow in the second quarter was $32.6 million including operating cash flows of $43.9 million. Depreciation and amortization expenses were $13.7 million in the quarter.
With respect to capital expenditures and asset light objective in the first half of 2008 the execution of this program resulted in CapEx spending of $18.2 million offset by $25.2 million in asset sales. Our net capital expenditures were a negatives $7 million.
The ending cash balance for the second quarter was $189.7 million. This reflects a decrease in cache of $7.2 million for the prior quarter through a net use of cash for the completion of the share repurchase program.
In addition, other use of cash was the payment of our Canadian tax liability of $5.3 million related to the tax periods predating for 2004 Belden CDT merger. We'll also provided a bridge loan to Trapeze of $2.5 million, which was repaid the time of closing.
On page 15, we have some key performance indicators. Second quarter 2008 working capital turns were 5.7, flat versus the first quarter and down 0.7 turns in the prior year.
Days sales outstanding improved slightly sequentially, however a slight degradation in days payable offset this. Inventory turns showed a sequential improvement of 0.4 turns and 0.10 turns year-on-year primarily driven by implementation of lean management tools in the Asia Pacific segment.
As a result our net use of cash for working capital was $17.6 million in the quarter creating greater opportunity for improved operating cash flows throughout the remainder of the year. We have added PP&E turns property, plant, and equipment to our key performance indicators slide.
PP&E turns have reached 6.8 an improvement of more than a one whole turn in the past year as a result of our focus on fixed asset utilization and improvement to ROIC. Before I close my remarks, I would like to discuss one additional matter.
We've announced our intention to redeem our 4% subordinated convertible notes on July 31st. We anticipate that this call for redemption will cause our note holders to surrender their notes for conversion since the value to be received in the case of a conversion, the value of 6,250,710 shares of the company's stock is in excess of the value they will receive in case of the redemption which is $110 million principle plus accrued and unpaid interest.
We anticipate the notes will be surrendered for conversion before the end of the day on July 30th. Recall in the 2007 second quarter the company inserted a net share settlement feature into the note agreement.
This feature obligates the company to pay the note holders a $110 million principal amount of the notes in cash in the case of conversion. Remainder of the value of the notes will be will be satisfied with the shares of the company's common stock.
The number of the shares the company will issue upon conversion is a function of the volume weighted average trading price of the shares over a 20-day period beginning on the second day following the day the notes are surrendered for conversion. We will have completed the redemption or conversion of all these notes no later than the end of August.
The financial results of the company have included the shares issuable upon conversion in the computation of diluted earnings per share since the third quarter of 2004. The impact of the net share settlement feature on diluted earnings per share has been taken into account since the second quarter of 2007.
As a result, we do not anticipate that the actual issuance of these shares in the course of the conversion of the notes will have a material impact on our – diluted earnings per share would have been otherwise. At this time I would like to turn it back to our CEO, John Stroup, for a few remarks about our 2008 outlook.
John?
John Stroup
Thank you Gray. In June, when we announced the acquisition of Trapeze Networks, we confirmed our outlook for our existing business and updated our view only for the effect of the acquisition.
The picture remains the same today. Like others, we find the macroeconomic environment to be uncertain, however, we remain confident in our ability to execute in times of slow economic expansion.
We are maintaining our revenue outlook at $2.2 to $2.3 billion. We expect that our operating margin will be between 11% and 12% adjusted for charges and that adjusted EPS will be between $3.15 and $3.35.
We are currently engaged in our annual strategic planning exercise and I'm looking forward to sharing an update with you in the fall after we have discussed the plan with our Board of Directors. Many of our investors have expressed support for the idea of further share repurchase activity.
That is certainly something we consider, but we are unlikely to make a decision on such a course of action outside the context of our overall board review of the strategic plan and our priorities for use of cash. Thanks for all of you on the call for your interest in Belden.
This concludes our prepared remarks. We now have some time for your questions.
Our operator Trisha reminds you of the procedures for asking your questions.
Operator
Thank you Mr. Stroup.
(Operator instructions) Mr. Stroup your first question will come from Matt McCall with BB&T Capital Markets.
Matt McCall – BB&T Capital Markets
Thank you good morning everybody.
John Stroup
Hi, Matt.
Dee Johnson
Hi, Matt.
Gray Benoist
Hi, Matt.
Matt McCall – BB&T Capital Markets
I think some of the comments – I just want to follow up on some of the comments about – you talked about the America in specialty you gave a lot of detail about what is going on in specialty. Sounds like there is still some pricing pressures there.
I guess, I do want to get an update on your expectations there for the rest of the year, I was hopeful that some of that would have deteriorated at least – eased as we progressed through Q2, and then second part of the question in the American this outlook maybe I'm looking at different comps then your referencing, but it didn't look like the comps were that difficult from a year-over-year growth perspective last year, and so maybe provide a little bit more detail there and hopefully some detail across the end markets as to what was really behind the weakness?
John Stroup
Sure Matt. First of all, I think we tried to say any way that in the case of Mohawk, which was a business that struggled a bit in the first quarter with some of the issues around pricing, we did a see significant improvement sequentially.
I think Gray mentioned that we saw almost a 500 basis point improvement in operating margins in Mohawk from Q1 to Q2. So, I think we feel quite good about the improvement in that business and I think that we're moving in the right direction.
We did see some continued weakness however in the low-end industrial cable business in the second quarter. That was a continuation of what we saw in the first quarter.
Our margins in that business have never been particularly good and as certain companies have taken advantage of a weaker dollar producing products in the United States and selling it in Canada we have walked away from such business 3320 (inaudible) unacceptable margins. But again we saw sequential improvement in that business as well.
As it relates to the revenue situation, what we are trying to help people understand, Matt, is that in the second quarter of 2007 there was a significant amount of revenue shipped that was booked for delivery in the first quarter. We were unable to ship it in the first quarter because of the spike in demand and also because of some of the manufacturing moves that we were doing and therefore our year-over-year comp was difficult in Belden Americas especially.
That was somewhat the case in Mohawk as well, but especially the case in Belden Americas. When you look at our growth sequentially, I think what you will find is we had a fairly normal pattern this year sequentially and our pattern last year was fairly abnormal.
We grew almost 18% sequentially last year from Q1 to Q2, which was not customary in our business, and I think if you look at not just our numbers but maybe numbers of other people in our space, I think you would find something similar in terms of the sequential pattern that we saw this year being normal to what we have seen in past years.
Matt McCall – BB&T Capital Markets
Okay, and then as it pertains to the end markets in the U.S., can you just add a little bit more there?
John Stroup
Matt McCall – BB&T Capital Markets
John Stroup
Well, the Asia business continues to perform very well. We didn't share with you the Belden branded growth because it is part of a segment, but the Belden branded growth in the second quarter in Asia was above 40% again in this quarter.
The other thing Matt, that I did mention is that our networking systems business grew 47% in the first half compared to prior year. That is significant because it represents I think our ability to sell systems effectively, and I think it also is a good example of where our team in Asia has done a nice job of upgrading our commercial talent.
So, we thought it was worth noting. The other thing I would like to mention Matt is that we have been making I think very good progress here in the last quarter with regard to how we serve the industrial market.
I talked a little bit about a few wins we have gotten where we have been able to help customers come to the conclusion that they'll be better off buying the switch, the connector, and the cable all from Belden and I think we are going to continue to see traction with that initiative through the year. That is exciting for us for all of the things that we have talked about but it is also exciting because we're really replicating the same initiative on the enterprise space by bringing together fiber, cable, and connectors and wireless and so the integration of Trapeze now in our view is quite similar to where we're a year ago with Hirschmann, and we couldn't be more happy with the results of Hirschmann.
Matt McCall – BB&T Capital Markets
Okay. Thank you all.
John Stroup
You are welcome.
Operator
Our next question from Jeff Beach with Stifel Nicolaus.
Jeff Beach – Stifel Nicolaus
Yes, good morning.
John Stroup
Good morning Jeff.
Jeff Beach – Stifel Nicolaus
Great quarter.
John Stroup
Thanks, Jeff.
Jeff Beach – Stifel Nicolaus
Two things first of all, actually three questions. One is easy, second quarter cost savings of $3 million equal to cost savings of $26 million of $3 million in the first quarter, was this below your expectation, were you looking at cost savings ramping up through the year, and it sounds like you are still working at the full 26, but rather than a ramp up it is all hitting in the second half.
Is this accurate or they did fall short of what you thought you would get?
John Stroup
No Jeff. It was pretty much where we thought it would be.
We had $3 million in the first quarter which annualizes to 12, we had an additional 3 in Q2. So that annualizes to 24 in Q2.
So, we are really pacing exactly as we thought we would pace and we remain very committed and confidential to $26 million for the year.
Jeff Beach – Stifel Nicolaus
Okay, it was 3 million additional?
John Stroup
That is correct.
Jeff Beach – Stifel Nicolaus
You probably don't have or willing to give margins on your acquired businesses but particularly with Hirschmann and Lumberg are you seeing – ?
John Stroup
They are very good.
Jeff Beach – Stifel Nicolaus
Are you seeing better margins at those companies than overall you are up?
Gray Benoist
Yes. Let me answer it in two ways.
First off, the gross profit of those two businesses as we described are significantly greater than our cable businesses and our operating margins are now starting to trend up higher than our cable business. But remember Jeff our cable business two years ago was a break even business, now it is a double digit business.
And our Lumberg and Hirschmann businesses are certainly north of double digits now as well. But those are businesses that we are very, very pleased with their results compared to where they were a year ago.
Jeff Beach – Stifel Nicolaus
And LTK the product pruning moved up the profits sequentially meaningfully and I assume then year-over-year as well?
Gray Benoist
Yes, that is correct.
Jeff Beach – Stifel Nicolaus
Last thing, just a little bit more on – I think most of the concern this morning of the press release was North America sales. Can you give us some flavor for year-over-year now comparisons declines in CAT 5, and in low-margin industrial, can you help a little bit there with magnitude in some way?
Gray Benoist
Sure. There are three things that I think that are worth talking about.
First of all we continue to see that the more desirable product lines, for example, the higher end category products as well as the more desirable industrial products are growing at rates that we would expect and the lower end products, ones that are not contributing at the same margin levels like the low- end industrial cable like CAT 5 are either not growing or in some cases they are shrinking and in ways that are quite purposeful. Secondly is, I think if you look at our year-over-year comps and you look at where we went sequentially from Q1 to Q2, I think, you are going to find our sequential growth is very, very similar to the other companies within our category.
In the second quarter last year, we had a lot of products that shipped that were some scheduled to ship in the first quarter. We would have preferred to ship it in the first quarter of ’07, but we were unable to, and that created a lot of shipments in the second quarter of '07 that were just mistimed.
The other thing that is worth noting is that we continue to see in the second quarter that our point of sale or sell through data from our channel partners is significantly higher than our sell to channel partner data, and we believe that is because our channel partners are more carefully managing their inventory right now than they did a year ago. So, at some point that begins to catch up and you can't have point of sale information that is in excess of the billing information, the billing data forever.
So, the fact that we have seen strong point of sales, the fact that we're seeing strong sequential growth certainly gives us reason to be confident in our top line.
Jeff Beach – Stifel Nicolaus
All right. Thanks a lot.
Gray Benoist
You’re welcome.
Operator
Our next question comes from Celeste Santangelo with Merrill Lynch.
Celeste Santangelo – Merrill Lynch
Good morning.
John Stroup
Hi, Celeste.
Celeste Santangelo – Merrill Lynch
Hi. So – looking at the outlook, you know, given the numbers that you just put up from an operating standpoint it looks like keeping the full year outlook, it seems you are little more cautious towards the back half of the year, and I was wondering if there is something you can specific you can maybe point to beyond just the general uncertain economic environment.
Is there something you saw during the quarter that is giving you reason for increased caution?
John Stroup
No, there is nothing specifically that gives us reason to be cautious in the second half. I think that our view right now is that the macro environment that we're all living in right now is a little uncertain.
It is certainly more uncertain in certain industries than others. I would to be in the financial industry right now, for example.
But in our markets we are still subject to the same macro environment that others are, and therefore we thought it was appropriate to conform our guidance for the full year and obviously we're going to work as hard as we possibly can to do better than that like we did in the second quarter.
Celeste Santangelo – Merrill Lynch
Okay, and then last quarter for North America it sounded like demand trended up as you exited the quarter and headed into Q2. Can you talk about the linearity in Q2, and then heading so far into Q3 in North America?
John Stroup
Yes, I mean, I didn't study it perhaps that closely, but I would say that there was a little bit of strength exiting the quarter from our point of sale information but I wouldn't say it was overly pronounced. I would say we are relatively linear within the second quarter, nothing significant, it is not like we entered Q2 real weak and exited it real strong.
So, I mean I think that the thing we are focused on in North America, of course, is continuing to see sequential improvement, monitoring our sell through data very closely with our channel partners and making certain the things necessary to gain share in the product categories we like and the manage the operating margins and the gross margins in the product lines that are not strategic.
Celeste Santangelo – Merrill Lynch
Great. Thank you.
John Stroup
Thanks a lot.
Operator
We will go to Jonathan Braatz, Kansas City Capital.
Jonathan Braatz – Kansas City Capital
Good morning gentlemen.
John Stroup
Hi, John.
Jonathan Braatz – Kansas City Capital
Good morning. Dee.
Dee Johnson
Hi.
Jonathan Braatz – Kansas City Capital
Gray, when we talked on the conference call about Trapeze you noted in there that there might be some nonrecurring amortization charges and some severance charges related to the acquisition. Have you been able to quantify that anymore, give us a little insight as to what those charges might be?
Gray Benoist
4435
Jonathan Braatz – Kansas City Capital
And how did you finance that acquisition, you were somewhat – you did have a – you were – you were looking at cash and borrowings, how did that all end up?
Gray Benoist
We utilized the revolver John. So, we drew down $133 million on the revolver to pay for the Trapeze.
The interest rates we're getting on the revolver interestingly, let's take the LIBOR, it is actually underneath the convertible rate. So, it is a fairly effective utilization of borrowing capacity.
Jonathan Braatz – Kansas City Capital
John. the other thing I was going to mention is, you know, I read from other companies, that was a little bit of concern about the growth rates in Europe, things slowing there somewhat.
Are you seeing anything that causes you a little bit of alarm, some concern about the growth expectations when you look at the European business?
John Stroup
Yes. I think that the second half will not be as strong as the first half from a demand perspective in Europe.
What we're seeing is that the businesses that we have that are exposed to the broad economy in Europe are seeing a little bit of softening like we saw in the United States and then the product lines that we think can sort of power through because of the secular benefits, like industrial Ethernet, for example, we would expect to see those continue to grow and, of course, the mix of the product lines are favorable to us. So, I think generally we're going to see a little bit of weakness in Europe.
By the way, it wouldn't surprise me if towards the end of the year we will see a little bit of weakness in Asia as well. Again it is comparative, we're still going to grow I think, but I think that the economic problems that we are experiencing in the United States are going to spill over into other areas.
Jonathan Braatz – Kansas City Capital
Thank you, John.
Operator
We will take our next question from Nat Kellogg with Next Generation Equity Research.
Nat Kellogg – Next Generation Equity Research
Hi, guys. Nice quarter.
Just a question. I know in the past you guys have talked about, you know, with the negative kind of growth, some of it is just due to, John, you said trying to refocus products and stop selling somewhat lower margin products.
So, just wondering if you can give a little color on how much of the slowdown was sort of real slowdown from western end of the product and maybe a little color on how much are you guys sort of refocusing your product and your sales effort to try and capture the higher margin sales?
John Stroup
Well, in raw terms, in the United States we had somewhere between $10 to $15 million in the second quarter of volume that we absolutely purposely moved out of the portfolio because the margins were not acceptable and that was largely in our industrial category type products. At LTK, I think that there was probably 10% of their top line that got moved out because the margins were not acceptable and then I think the rest of the portfolio, if you look at it and again the reason I am going back to sequential is that those product lines sequentially grew very nicely and the difficulty in the year-over-year comp has more to do with 2007 than it has to do with 2008.
Again 2007 we had a lot of products that shipped in the second quarter that were scheduled for the first, and then we did see continued inventory reduction in our channel partners in 2008. Obviously, at some point that had corrected itself and there will be quarters where we will see the opposite happen, but those are the two big areas Nat where I think we saw portfolio management.
Nat Kellogg – Next Generation Equity Research
And then I would expect that you guys would continue to keep that disappointment going forward?
John Stroup
Yes, absolutely. The only caveat that I would say now is that in cases where we know that we have got a manufacturing cost structure that is going to improve because of the footprint actions that we have taken, we'll hold on to that revenue even if might be at slightly lower margins because we know we can realize acceptable margins in a relatively short period of time.
Nat Kellogg – Next Generation Equity Research
Okay. That's definitely helpful.
And then if I look at, I guess the back half of the year you guys at one point I'd think it is maybe Q4 – it is not Q4 – you did at one point have sort of a little bit elevated R&D spend with the Hirschmann sort of in the back half of last year. Is that correct and I assume that that probably won't be repeated this year although you guys are continuing investing?
John Stroup
You are right. In the fourth quarter, we did see a spike in R&D spending at Hirschmann that is true.
but I would say this, we do intend to continue to invest R.&D dollars in the industrial Ethernet business because we're seeing good growth rates and we're seeing real nice margin expansion. So, we are going to spend our money wisely, but we're very focused in keeping costs under control and continued investments that we make in R&D are going to be very targeted in the areas where we think the lifecycles are such that technology investment really matters.
So, Hirschmann is a good example of that, Lumberg is a good example of that and of course Trapeze will be a good example of that.
Nat Kellogg – Next Generation Equity Research
Okay, that is great and then last one, a little housekeeping one I think maybe for Gray, what was that the Czech business, what did that contribute last year. Just trying to get a year over year sense of what – how much that has contributed?
Gray Benoist
5022
Nat Kellogg – Next Generation Equity Research
Okay that is great, and it certainly had sense with Hirschmann was but the Czech number was helpful. Obviously nice quarter guys, that is all I have got and thank you guys very much.
John Stroup
Thanks Nat.
Operator
(Operator instructions) We will go to Kevin Sarsany with Galet.
Kevin Sarsany – Galet
Hi guys, been a while.
John Stroup
Hi, Kevin, welcome back.
Kevin Sarsany – Galet
Thank you very much. I have a question now.
With the $26 million saving you are pointing to 11% or 12% operating margin. I guess looking a longer term, if you still have your goal of operating margin of 15%.
At one point, you talked about 7 initiatives, I was wondering if you could kind of touch on some of those initiatives going into 2009 and those that are kind of in your control such as manufacturing consolidation, mix, kind of sales versus volume?
John Stroup
Sure. The initiatives are exactly the same Kevin.
the things that are focused on it are no different than we spoke about a year ago or two years ago. Remember the 11% to 12% of course includes the impact of Trapeze and of course includes this deferral of revenue.
So, on an apples-to-apples comparison our operating margin would obviously be exiting higher, just as we saw in the second quarter 12.5%. The things, of course, that are in our control is manufacturing footprint which we remain very, very confident with and pleased with our progress.
Our Lean initiative, we are beginning to see some of the productivity improvements from Lean that we expected. Portfolio management, which showed up in the second quarter at LTK, Americas, and other parts around the world, and then I would say an even greater focus than ever in the company on bringing in high quality organic growth.
We brought on a new executive about 110 days ago who has got an outstanding set of experiences with regard to industrial markets and in our strategic planning this year planning cycle this year we are focused more than ever on generating high quality organic growth. It is going to have fall through in our normal range around 40%.
So, in 2009 , I think, you’re going to see the nice blend, you're going to see cost improvements, but I think in 2009 you will probably see a little more emphasis on the benefits of organic growth then maybe you saw in 2007 or 2008 where it was a little bit more focused on cost.
Kevin Sarsany – Galet
The R.&D spending you are doing at Hirschmann, is that legacy, I mean it is ongoing – but is that part of trying provide a full solution for industrial automation and also I guess looking forward how does the Trapeze or if it does apply to industrial automation longer term?
John Stroup
Well, most of the engineering spend at Hirschmann right now is directed at making certain that their product line continues to be far in the lead in the markets that they serve. That is where Hirschmann has really always been very strong and the life cycles in those product lines, of course, are a lot shorter than they are with cables.
So, we need to continuously make investments in the product line to keep them competitive and to keep them in a leading position. Going forward, however, I would expect that we would spend more R.&D dollars on bringing together the Hirschmann switch and some of the industrial wireless opportunities that we see for our industrial initiative.
So we have already had important meetings, constructive meetings with our Trapeze team and with our Hirschmann team about how we can apply the wireless technology into markets beyond enterprise including industrial and we think we are uniquely positioned to do that given the fact that we have a strong capability and awareness in both markets. I would say the money we're spending to bring together solutions to the industrial enterprise market are probably most likely going to be in the sales and marketing area.
So the spending that we have in Steve Biegacki group, for example, around how to address the opportunities in those markets as a complete solution provider as well you might see more increase, say for example, in 2009.
Kevin Sarsany – Galet
Okay. just a – last one, what is your mix of plans in low cost versus high cost?
John Stroup
Well, we have a metric that we track which is the percentage of associates in our manufacturing group that are in low cost regions and remember when we acquired LTK that metrics skyrocketed because we have many of our associates in China, many of those associates are manufacturing people. So on an associate basis, Kevin, it is I think well in excess of 50%, on the production basis, I'm not exactly sure where it is right now but again it wouldn't surprise me if it isn't getting close to 50%.
But why don't we follow up on that and get you a more detailed answer.
Kevin Sarsany – Galet
You got it. Thanks.
John Stroup
Thanks Kevin.
Operator
We will now go to Keith Johnson, Morgan Keegan.
Keith Johnson – Morgan Keegan
Good morning.
John Stroup
Hi, Keith. Welcome.
Keith Johnson – Morgan Keegan
Just a couple of quick questions. I guess, first of all, lot of initiatives you have had to reduce cost within your manufacturing operation.
Could you give us a little color on whether or not or how much you may have seen of inflationary pressures in your manufacturing operation whether with your raw material or fuel surcharges that sort of thing?
John Stroup
You know, we have been fighting that very hard. In fact, we probably did not do a good job as saying that all these savings came on top of combating cost increases in commodities.
You know we talk a lot about copper but we probably don't talk enough about are issues with petroleum-based products, not to mention the fact that our transportation costs are going up because of oil prices. So our team has done a nice job of battling that and we did see increases in the second quarter of course with these effects of commodities, but our team has done a nice job of finding cost reductions to offset that and as we look at our full year outlook we have in fact incorporated the effects, the negative effects of commodities into our operating plan going forward and obviously we think we can do that then with other cost reductions.
Keith Johnson – Morgan Keegan
Okay. Is there any way you kind of quantify the quarter, maybe in a matter of basis points, or something that did affect your margins?
John Stroup
I don't really know how to give you an accurate answer right now. I can just tell you that if I include the impacts of commodities around feedstock, petroleum feedstock, and I would include transportation costs.
They are significant enough that they could have negatively impact our entire manufacturing savings in the quarter but our team was able to offset that. So, I don't know how to give you an exact number.
We could try to estimate it and get back to you but it is material.
Keith Johnson – Morgan Keegan
What about this environment ability to try to get some of that back as you look to the rest of your selling price loss?
John Stroup
Well, our team has done a good job I think of quickly acting on price changes that are necessary to deal with these items. Clearly most people are in fact aware of the rise in price of oil.
So when we help them understand that our transportation costs are going up because of that, where our composite materials are going up because of that they are understanding a bit and as long as we just announce it in an orderly way than we are able to pass on the price increases.
Keith Johnson – Morgan Keegan
Then I guess just one last question, just to make sure that I was understanding your guidance. Could you give me an idea of kind of what the economic outlook is, I guess, may be by geography that is your guidance for the year?
John Stroup
Y
Keith Johnson – Morgan Keegan
Okay. all right thanks a lot
John Stroup
Thank you.
Operator
And there are no further questions in queue at this time.
Dee Johnson
Okay that is great. Let me thank everyone again for joining us on the Belden earnings conference call.
We appreciate your interest and you're welcome to give us a call any time if you have follow-up questions. This concludes our call today.