Nov 3, 2008
Executives
Stephanie Kushner – SVP and CFO Jim Goodwin – Board member Bill Osborne – President and CEO
Analysts
Ned Borland – Next Generation Equity Research Ajay Kejriwal – Goldman Sachs Charlie Brady – BMO Capital Markets Steve Barger – KeyBanc Capital Markets Jack Hain – Barrington Research
Operator
Good day, ladies and gentlemen, and welcome to the third quarter 2008 Federal Signal earnings conference call. My name is Natasha and I will be your coordinator for today.
At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference.
(Operator instructions) I would now like to turn the call over to Ms. Stephanie Kushner, Senior Vice President and Chief Financial Officer.
Please proceed.
Stephanie Kushner
Thank you, Natasha. Good morning everyone and welcome to Federal Signal’s third quarter 2008 conference call.
Joining me on the call today are Jim Goodwin, one of our Board members and Bill Osborne, our recently appointed President and Chief Executive Officer. Before we begin, I will remind you that some of our comments may contain forward looking statements that are subject to the safe harbor language found in today’s news release and in Federal Signal’s filings with the Securities and Exchange Commission.
These documents are available on our Web site federalsignal.com and we will be filing our 10-Q shortly. Now I will turn it over to Jim to begin.
Jim Goodwin
Thank you, Stephanie, and good morning to everyone. Welcome to Federal Signal’s third quarter 2008 conference call.
During the call today, I will take a few moments to provide a brief update on our strategic initiatives and the current environment. Next Bill Osborne, our newly appointed Chief Executive Officer, will provide a detailed business update as well as his initial observations since joining Federal Signal six weeks ago, and then Stephanie will provide a more detailed discussion of our quarterly results, and finally we will wrap up with questions from our listeners.
First, I want to take a moment to say that it has been a privilege to serve as Interim CEO over the past three quarters. With the support of a seasoned hands-on-board and a strong management team, I am happy to have been leading Federal Signal during this important time.
While we still have much to do to leverage our new position in the market, we now hold a solid collection of stable businesses that provide a solid foundation for long-term shareholder value creation. I look forward to actively contributing to the company’s future success as a board member and I know I speak for the rest of the board in saying that we are delighted to have Bill Osborne take over the leadership role of the company.
I will properly introduce Bill in just a moment but first let me provide a brief update on our progress during the third quarter. During my tenure, we made a number of changes in order to reshape and strengthen the company.
As announced, we closed the E-ONE transaction in August of this quarter. The timing and the circumstances of the E-ONE sale look increasing fortuitous with the benefit of hindsight.
We were able to extract $36 million of working capital during the nine months leading up to the divestiture which strengthened our balance sheet and funded some of our growth investments. We stand operating losses that were averaging $6 million per quarter which would have put significant pressure on our debt covenants during the recession.
In contrast to a liquidation scenario, we are no longer exposed to potential product or other liabilities associated with E-ONE’s installed truck base or dealer network. Moreover the divestiture of E-ONE prompted the subsequent liquidation of our financial services assets which brought us an additional $40 million of cash flow in the third quarter and $94 million year to date.
We use these proceeds to pay down a considerable amount of debt. As of September 30, our net debt was $228 million down $186 million from January 1 and at our lowest level since 1995.
Given the recent financial crisis, hiked credit markets, and a soft near-term economic outlook, we are very pleased to have a conservative balance sheet and we expect to make further reductions during the fourth quarter when we receive an additional true-up payment associated with the E-ONE sale. Stephanie will provide further details on our debt and liquidity position a little later on this call.
Despite operating in a challenging market environment, Federal Signal delivered improved Q3 financial performance and made real progress on our strategic initiatives that bring us closer to realizing our long-term financial and operating goals. We established a solid foundation from which to grow profitably long term and we still have significant opportunity to improve our operations, take unnecessary costs out of the business, and deliver organic growth and long-term shareholder value creation.
Before I turn the call over to Bill, let me address our decision to negotiate a termination of the parking system contract for Dallas Fort Worth Airport. This was not a decision that management took lightly.
In fact, we have worked on this contract for many years and despite numerous modifications and accommodations, we were unable to reach an agreement with our customer. The products and technology utilized in this project are the same as the parking systems that were successfully installed in the New York Airports which gave us confidence we could have the same level of success in the smaller Dallas Fort Worth Airport.
It became increasingly clear that the parties were unable to agree on the terms and specifications of the contract. Consequently, we decided a settlement would be the appropriate course of action.
During the quarter, our SSG business took a $3.4 million after-tax to write-off the partially completed implementation among other associated charges and expenses. With that, I would now like to turn the call over to Bill and let me again state how pleased my fellow board members and I are to have Bill Osborne at the helm of the company.
Bill has worked with numerous municipal, industrial, and international organizations which will bode well in his role as CEO of Federal Signal. Bill?
Bill Osborne
Thank you, Jim, for your kind introduction. Before I get underway I just want to thank you Jim for all your hard work and outstanding contribution serving as Interim CEO during a critical time for the company.
I certainly appreciate your support and look forward to continuing the work closely with you and the rest of the board. I would like to start out today by reminding everyone why I joined Federal Signal in the first place.
I joined the company because I saw tremendous opportunity to create value. Federal Signal is a great company with a rich history, strong positions in a number of diverse markets, durable customer relationships, and a high degree of product innovation.
I would like to give you all some perspective on what I have been doing over the past few weeks since I joined Federal Signal. It certainly has been an exciting time stock market dynamics aside.
I have been out on the road meeting with our customers both domestically and around the globe. Without exception our customers have confirmed that Federal Signal is a leader in the markets in which we operate.
We are viewed as product innovators and as a reliable trusted partner by our customers. I have also travelled around meeting with our employees, assessing our facilities, our working practices, and our products.
Our employees around the world continue to work diligently to ensure we are able to deliver on current and future commitments and I have been impressed with many of the team members that I have met. We have a strong team that does an excellent job for Federal Signal and our customers each and every day.
Over the past few weeks I have asked a lot of questions and done a lot of listening. I see a lot of things at Federal Signal that are being done right.
I am also seeing a number of missed opportunities and am identifying those areas where we need to improve. I am well underway with formulating my plan to achieve the growth and profitability that Federal Signal shareholders deserve and I expect this plan to be ready early in the New Year.
As the cornerstone of this plan are the key priorities that I laid out to you last month. First, an unrelenting focus on our customers; second, execution and accountability both at the operational level and financially, we must keep focused on achieving and maintaining a lean cost structure and providing consistent returns to shareholders; and lastly an unwavering commitment to quality to ensure that we have world-class performance on all aspects of our organization.
With that said, we have initiated a process of analyzing each and every business within Federal Signal from the bottom up with a view to simplify, take out cost, achieve higher growth and pursue higher return opportunities. At a high level, we need to reduce our complexity, streamline our product offerings, and lower our overhead and design costs.
We need to focus on velocity and manufacturing; this includes focusing on both higher volume customer orders as well as improving customer lead times. We need to further integrate a fragmented SSG business to support a system selling model.
We need to profitably expand to non-traditional markets such as Russia, Eastern Europe, India, and South America. We have to accelerate the growth that we are starting to see in the public safety systems business and we need to do all this while maintaining our product leadership position in the markets we serve.
Now Jim supplied some general commentary on the state of our company and the current environment. I would like to now provide some greater detail on our end markets and how we are responding to current macro economic conditions.
As Jim mentioned earlier, our US municipal business remains our greatest current concern. Orders were down 14% compared to last year in the quarter and we will likely continue at this reduced level and could even decline further over the next several quarters due to lower building permit revenue and increasingly lower sales taxes as consumer spending slows.
Both of these trends are putting severe pressure on municipal budgets. During this quarter we saw declines in order intake for every significant municipal product line other than PIPS.
We continue to feel the greatest impact at our Elgin sweeper plant where we typically run our short backlog and US municipal customers dominate our customer base. The softening business in our other plants is less problematic because they either have a strong backlog or broader customer base.
At the Elgin facility, we are seeking additional opportunities to take on (inaudible) work for other production sites and are continuing to manage down our fixed costs. We have now reported a few sequential quarters of weaker police lightbar and siren business.
Fortunately, the operational impact here is less problematic in our lightbar business. These products are produced in a shared plan which allows us to absorb overhead costs despite a lower demand environment.
Nonetheless police car registrations are down 7% to date and we are feeling that impact. To cover this decline, we are adding resources and redoubling our efforts to market our PIPS product line.
This could provide incremental municipal revenues as the PIPS technology has proven to be an attractive offering even in this tough fiscal environment. PIPS technology is driving significant growth in the public safety system’s business.
In fact, in October we will book our record $7.3 million of new business driven by big wins like the E-470 toll way in Denver, our journey time measurement solution in the UK, and an expansion of our installed base with the LA County shares department. Our US industrial business which comprises about a quarter of sales was down about 3% in the quarter mainly due to lower orders for revenue control equipment in our parking business and softer demand for amberlite for toll trucks and commercial vehicles.
This was offset partially by stronger orders in our other business lines such as industrial vacuum trucks, water blasters, and industrial signaling and communications equipment. Orders in each of these business lines increased on a year-over-year basis.
However my recent discussions with customers in the industrial segment indicate that the credit crunch is hitting that hard. Going forward we are preparing for weaker industrial demand as customers defer capital equipment purchases to conserve cash.
With most US economist forecasting negative GDP growth for the fourth quarter in the US, and a clear slowdown now underway in Europe, we expect fourth quarter orders to continue to be below 2007. Orders outside of the US were down about 4% on a currency adjusted basis.
Decline was mainly in export orders for environmental solutions which are typically quite unpredictable, having said that the weaker global economy add about half of our industrial sales currently in Western Europe, we expect some fall off in future quarters. I would like to summarize by saying that much has been done to rationalize Federal Signal’s portfolio over the past year.
These changes have created a solid foundation from which to grow profitably over the long term. However, in this economic environment we must renew our focus on reducing our cost structure so that we can continue to generate profits, maintain liquidity, and build on that foundation.
I believe we have tremendous opportunities to create long-term sustainable value. We remain as focused as ever on our customers and we are carefully controlling our cost as we navigate through this challenging economic environment.
Now, I will turn the call over to Stephanie who will provide a more detailed discussion of our quarterly results.
Stephanie Kushner
Thank you, Bill. We reported EPS of $0.31 in the quarter, up from $0.21 a year ago.
I would like to comment on some of the unusual items in both this year and last so that you can see that absent these items, we did in fact outperform the prior year although less significantly than the numbers would suggest. First and largest, we recorded an $8.2 million tax benefit associated with the sale leaseback transaction that was closed during the quarter.
We did the transaction in part to delever and diversify our financing but also because we had capital loss tax carry-forward which might otherwise expire and which we were able to apply against the $29 million gain on the sale of two plants. Since we were able to shelter those gains, there was essentially no tax due on the transaction.
We received net proceeds of $35.8 million. At the time of the last call, we had received preliminary advice that this tax benefit would be amortized for accounting purposes over the 15-year life of the lease and therefore we did not adjust our tax rate forecast for the year.
Instead a subsequent advice indicated that the full effect needed to be recorded within the quarter giving rise to a very beneficial in fact negative income tax rate. With the known tax impact, we are now lowering our effective tax rate projection for the full year to 5% to 7%.
This figure also takes into consideration congress’ recent extension of the R&D tax credit which was enacted in the fourth quarter and will therefore benefit us in that quarter for about $400,000. Also impacting the quarter was the adverse $3.4 million after-tax charge to close out the parking and revenue control systems contract with DFW.
As Jim described, this has been a troubled project for some years and we and DFW have decided to part ways which allows them to identify an alternative solution for their unique site. Lastly, our two Houston based plants experienced significant disruptions associated with hurricane Ike costing about $600,000 after-tax in the quarter.
There was no long-term damage to our facilities and our employees have done a great job recovering, so this should not be a factor in the fourth quarter. Putting these items aside and also the favorable $1.2 million after-tax excise tax settlement from last year, our year-over-year comparison would still have been positive mainly due to lower interest expense due to the deleveraging that we have done this year to date.
Especially in these credit markets, this has clearly been the right move. Before I continue talking about Q3 details, I want to make a couple of comments regarding how the recent financial turmoil has impacted our business and the steps we have taken or are taking to be in the best possible position to thrive during the downturn.
First the liquidity, as Jim stated, our balance sheet is in the most solid position it has been in many years with net debt at $228 million on September 30. Our $250 million committed credit facility was renewed and increased last year and has a five-year term extending through April 2012.
At the end of September we had $60 million drawn under the revolver and we are in full compliance with all covenants. Our ten-member bank group is strong.
Our private placement debt maturities are staggered with only $25 million coming due in 2009. At a debt level of about $200 million at current interest rates, our quarterly interest expense will be in the range of $3.5 million in 2009, about $7 million below this year’s figure on a full-year basis.
Second, pension, like many of our peers, our pension funds have suffered with the loss of equity value. As you may recall, we essentially curtailed our US and UK defined benefit pension plans about two years ago and converted our employees to define contribution plans.
However we remain obligated for past benefits and have suffered significant declines in our asset bases. Based on recent equity values, this could depress next year’s earnings by approximately $4 million to $5 million unless we see some significant market recovery before 12-31.
Third, exchange rate, Federal Signal has significant assets and earnings in Europe and the UK more so due to the acquisition of PIPS last year. The weakening dollar trend over the past five years has been good for the company in terms of improving our competitiveness for export sales and has boosted reported earnings from our Euro and UK based businesses.
The recent reversal will impact us negatively although that impact will be mitigated by currency hedges currently in place. At today’s exchange rates the adverse year-over-year pretax income impact would be in the $4 million range, half of which has been hedged for a net unfavorable impact of about $2 million next year or $0.03 per share.
So, we have positioned ourselves well for the financial system shock although it will have some negative impact next year. Now on to the income statement, third quarter revenue totaled $227 million, down slightly from $229 million a year ago.
The net decrease was minimal although organic sales volumes were down about 4% mainly at FSG due to lower shipments of police products and the wind down of the large parking and revenue control contracts. Also unfavorably impacting the comparison were the one-time effects of settlement, one adverse this year and one favorable last year.
Offsetting the organic decline were increased PIPS deliveries, the impact of pricing actions taken earlier this year, and beneficial currency translations. We reported a consolidated gross margin of 26% down 210 basis points from last year.
The reduction was mainly due to weaker margins at our Elgin sweeper plant due to the low volume and the absence of the excise tax settlement last year which boosted gross profit. Margins for Bronto were also considerably lower due to a less favorable sales mix and operational complexities with delivering planned units in the midst of commissioning the new plant and rolling out the next generation product line.
Partly offsetting these factors were higher margins at FSG due to growing sales of PIPS products. Our operating expenses averaged 20.4% up from 19.5% last year.
The increase is due to the additional DFW reserve plus some higher expenses associated with the leadership change offset by the impact of other cost reduction effort. Our consolidated operating margin averaged 5.7% and was impacted by these same factors.
Turning to the segments, our SSG net sales totaled $90.4 million down from $94.4 million last year. Sales of US lightbars and sirens are remaining down consistent with a weak market we have experienced for several quarters.
Although police vehicle registration data indicates some recovery from last quarter and as Bill said is now down only 7% year to date, our orders are still down about 15%. Although there is no good industry data available, we believe our competitors are seeing the same year-over-year impact.
As we saw in the last downturn, we are seeing more instances now of municipalities installing used lightbars and sirens on new vehicles to safe funds. Additionally impacting SSG, our Houston based industrial lighting business was closed for several days due to the hurricane.
Partly offsetting these factors were higher PSS shipments in part due to completion of the extension of the London congestion tolling system expansion which uses our PIPS camera. Operating income totaled $8.3 million or 9.2% of sales.
Importantly the margin excluding the DFW charge would have been 15.7%. Profits for the PSS business have improved each quarter this year as the business gained traction at higher incremental margins than our more mature based business.
Looking into the fourth quarter our SSG business is in the best position. Although they continue to face weaker police market, PIPS is gaining momentum and they have the challenges from the DFW contract behind them.
October orders have been in line with last year. We expect the fourth quarter earnings to be in line with last year with margins in the mid teens.
ESG recorded net sales of $108 million just slightly below last year. Operating income was $9.1 million or 8.5 % of sales.
Given the volume headwinds faced at the Elgin plant, this is pretty good comparative performance. Their backlog at the Vactor/Guzzler plant has been strong and they have been shipping well above the prior year which has offset the lower sweeper sales.
Moreover this business had the adverse comparative headwind of last year’s favorable $1.8 million excise tax settlement received in the quarter. The business is looking at a challenging fourth quarter due to the lower Elgin backlog and is likely to post a lower sales and margins.
October volumes are running well below last year and we are beginning to see some emerging weakness in our industrial orders which have been holding up so far this year. This was a disappointing quarter for Bronto.
Revenues rose 13% on the same number of units mainly due to currency. Their operating margin was down significantly at 4.2% for a couple of reasons.
They incurred higher overhead costs as a result of their capacity expansion which came on stream in the quarter but contributed no additional volume because of the commissioning time required in the summer holidays. Additionally they recorded higher SG&A expense due to a bad debt charge taken as a result of the insolvency of one of their foreign dealers and additional launch costs associated with their new range of products.
October orders were below last year but this business is pretty lumpy and they had two multi-unit orders last October. Having said that with the current backlog that exceeds this year’s sales, their earnings will be cushioned for some time should orders trend lower than last year.
In the fourth quarter, Bronto should perform modestly ahead of last year which was $4 million on a stand-alone basis excluding leasing. They are increasing throughput and should take advantage of the additional capacity to produce additional units.
We expect their revenue figure to exceed last year by 10% or more. Corporate expenses increased slightly to $5.8 million in the third quarter, the increase reflects higher costs associated with bringing Bill onboard and increased spending for the hearing loss litigation partly offset by reductions and other spending.
Looking into the fourth quarter, corporate expenses will likely be about $2 million above last year as we ramp up spending for the second Chicago hearing loss trial which begins on January 5. Operating cash flow this quarter was $43 million up from $26 million a year ago mainly due to the additional lease portfolio liquidation.
Partly offsetting was a $3.5 million increase in our working capital driven in part by increases in dealer receivables for dealers who are facing floor plan transitions in this choppy credit market. This could continue to be a factor in the fourth quarter and ultimately impact us by about $10 million until floor plan financing is available again to these dealers.
Impact is on working capital not on earnings. Below the operating cash flow line, we booked $35.8 million of cash associated with the sale leaseback transaction I described previously and at the end of the quarter our manufacturing net debt to capitalization ratio stood at 39% with a trailing debt to EBITDA ratio of 2.8 times.
Before closing and building on Bill’s comments, I would like to make some observations about Q1 of next year. As you know, Q1 is typically our seasonally weakest quarter and 2009 will be no exception.
In addition, our corporate expense will likely remain relatively high due to the hearing loss trial impact. We will be able to provide more insight shortly after the New Year.
Now, I am going to open the line up for questions.
Operator
(Operator instructions) Your first question comes from the line of Ned Borland with Next Generation Equity Research. Please proceed.
Ned Borland – Next Generation Equity Research
Good morning. First a housekeeping question on litigation expense, can you break that out for us in the quarter?
Stephanie Kushner
In this quarter?
Ned Borland – Next Generation Equity Research
Yes.
Stephanie Kushner
For this quarter, it was I think $1.8 million.
Ned Borland – Next Generation Equity Research
Okay, and are you still expecting – you were at about $7 million for year-to-date through the second quarter, so is it fair to assume that you are going to trend higher than the $8 million to $10 million range that you projected last quarter?
Stephanie Kushner
No, we are still looking at about $10 million for the full year net of the insurance recovery.
Ned Borland – Next Generation Equity Research
Okay. Then on the police lightbar sales, I remember there was a strike last quarter that got resolved, did you see any benefit from that resolution in your lightbar business?
Stephanie Kushner
We did see an increase in the power deliveries in the third quarter but frankly it was not enough to move the needle in terms of our orders, which was a disappointment.
Ned Borland – Next Generation Equity Research
Then on raw materials, we have seen a slide in quite a few commodities here, can you give us a sense of when we are going to start to see the benefit from some of these softer raw material prices?
Jim Goodwin
We are renegotiating contracts with key suppliers and expect to see some improvement in raw material cost over the next couple of quarters.
Stephanie Kushner
One of the mitigating factors is that as the prices were going up, we were being protected with some of our contracts. So, as a result of that, we experienced a little bit of lag in recording the benefit.
Having said that, in the third quarter, the raw material impact for us was only $900,000 which was a pretty good number and certainly a less meaningful impact than – it does not come anywhere near the type of impacts we had during the last commodity escalation cycle.
Ned Borland – Next Generation Equity Research
You were able to raise prices in the quarter, right?
Stephanie Kushner
Yes, that’s right. We raised prices between 2% and 6% really on all of our product lines and those price increases went in anywhere between June and I think July, August of this year.
Jim Goodwin
We should be very forthright about this though. As we tried to pass on some of those material surcharges to our customers, we expect that our customers are also looking at the commodity markets and realizing prices are coming down, will be coming back to us to renegotiate some of those surcharges.
Ned Borland – Next Generation Equity Research
Is there a significant part of your customer base that has surcharges embedded in contracts?
Jim Goodwin
Most of the price increases that we were able to pass through were on steel and so our highest exposure would probably be in the Bronto business and the ESG business.
Ned Borland – Next Generation Equity Research
Okay thanks.
Operator
Your next question comes from the line of Ajay Kejriwal with Goldman Sachs. Please proceed.
Ajay Kejriwal – Goldman Sachs
Good morning. Just a quick question on orders, you alluded to orders down this quarter but wondering if you could maybe quantify or provide some insight into what you saw in October versus September.
Stephanie Kushner
Hi Ajay. Yes, in terms of October what we have seen is SSG being stable with last year, Bronto and ESG both being down materially, so again we have not finished our reporting period that goes through tomorrow but at this point, they look like they are both down meaningfully.
Ajay Kejriwal – Goldman Sachs
And they are down year over year but sequentially versus September, has trends gotten any – it sounds like things have gotten worse but any numbers you have for September what orders were and October?
Stephanie Kushner
September versus October, I don’t have those in front of me – Yes, I have got it, part of the problem is that we do have seasonality factors that impact our numbers so I am not sure if September to October number is a very relevant number.
Ajay Kejriwal – Goldman Sachs
Just the year-on-year change?
Stephanie Kushner
Sorry, September was actually flat with last year in total which was a little bit of a surprise.
Ajay Kejriwal – Goldman Sachs
It sounds like October has started off in a positive way.
Stephanie Kushner
I am going to correct myself, September was actually down 4% from year ago, it was the municipal orders that were flat year over year.
Bill Osborne
We are seeing further weakening in October sequentially.
Ajay Kejriwal – Goldman Sachs
Okay, got it. Bill you talked about several cost reduction initiatives including folks reducing product complexity, I know it is early days yet but based on your initial assessment, could you talk about what is the potential size of the opportunity and maybe the timeline to realize some of those cost benefits?
Bill Osborne
I can talk to you about a timeline, I am certainly not in a position to give you numbers at this point. The process that we are going through is trying to evaluate our entire product portfolio in terms of profit contribution and where we have marginal products our plan is to analyze whether those products can be grown or can be priced or in those two instances if we are not able to put together a plan to drive additional profit, we will be eliminating certain products.
And through eliminating those marginal products our plan is to take out the overhead associated with those products. We imagine that that will take us at least the next several months to go through that analysis.
Ajay Kejriwal – Goldman Sachs
And it would be some time in the second half of ’09 when you will realize those costs or –
Bill Osborne
I am not prepared to tell you when we will realize those costs, I can tell you that we plan to have a complete analysis early in the year on marginal products and once we decide which products we will trim from our portfolio, we will be in a better position to define the cost savings and overheads associated with those.
Ajay Kejriwal – Goldman Sachs
Okay. And maybe just a question on Bronto, you talked about weakness in demand in the release from rental companies if you could elaborate a little bit on that and also should we expect revenues to bounce back in the fourth quarter, third quarter came in lighter than what we are looking for, obviously you talked about some of those reasons but how should we think about fourth quarter from here?
Stephanie Kushner
The fourth quarter revenues should be above last year by 10% or more, there definitely will be a rebound. You have to remember that Bronto, their production facility is basically closed for the entire month of July.
In terms of the demand on the industrial side, we talked about this a little bit last quarter and we saw more of it this quarter and that is the demand from our industrial customers has been pretty weak. Fortunately the demand on the fire side and the growth of the fire demand in the emerging countries has been offsetting that in large part.
Normally, the industrial demand for this business is about 30% of their total orders and for example in this quarter it was closer to 10%.
Ajay Kejriwal – Goldman Sachs
Good, got it. Thank you.
Operator
Your next question comes from the line of Charlie Brady with BMO Capital Markets. Please proceed.
Charlie Brady – BMO Capital Markets
Hi, thanks. Good morning.
With regard to Bronto and the sales, how much of that is FX related?
Stephanie Kushner
Sorry, this quarter or next quarter?
Charlie Brady – BMO Capital Markets
You would have 13%, correct.
Stephanie Kushner
Yes.
Charlie Brady – BMO Capital Markets
How much of that was foreign exchange?
Stephanie Kushner
It was predominantly foreign exchange. We actually sold the same number of units this year as we did last year.
Charlie Brady – BMO Capital Markets
Okay. Is the backlog figure for Bronto currency adjusted?
Stephanie Kushner
No, we report our backlogs on an absolute basis.
Charlie Brady – BMO Capital Markets
Okay. I guess I have just got a question with regard to the Vactor plant buildout, given the commentary and the sort of global environment we are in, I am assuming you are still planning on going forward with that but what does that do to your capacity utilization once that plant comes online into – what is obviously a down market here?
Bill Osborne
We still have a significant backlog (inaudible) we expect to continue through 2009 even with the planned expansion however we believe even with a weakening demand that the opportunity to compete with on shorter customer lead times is extremely valuable in that business. Contractors tend to buy these products when they get an order and when they get an order they want the product right away.
So we believe that shorter lead times will be a competitive advantage in that business.
Stephanie Kushner
I think there is one other thing that helps us feel confident about that investment and that is that we have outsourced a lot of the sub-component bills which we can bring back inside if we have the extra capacity.
Charlie Brady – BMO Capital Markets
Stephanie we will look at other – the tax rate implied for Q4 looks around 20%, 21%, is that a figure we ought to use for a full-year run rate in ’09?
Stephanie Kushner
No, we have to use a higher rate in ’09. You should be using closer to a 30% number, 30% to 32% in ’09.
Charlie Brady – BMO Capital Markets
Okay, so no real – okay, so to about what it was prior then.
Stephanie Kushner
Yes.
Charlie Brady – BMO Capital Markets
Thanks very much.
Operator
Your next question comes from the line of Steve Barger with KeyBanc Capital Markets. Please proceed.
Steve Barger – KeyBanc Capital Markets
Good morning.
Stephanie Kushner
Good morning Steve.
Steve Barger – KeyBanc Capital Markets
Bill I hear what you are saying about needing some time to go through the process and really identify the timeline and the quantity of cost takeouts, but thinking about your business analysis that you mentioned from a higher level, when you talk about things like reducing complexity, and increasing manufacturing velocity in international opportunities, due you have the bench strength right now to do that concurrently or do you have to prioritize that into a multi-year process.
Bill Osborne
I think we have to do both. We are going to be going after cost reduction and streamlining the operation at the same time that we invest in our growth products.
I don’t think it is an either or process, we will have to do both in the very near term
Steve Barger – KeyBanc Capital Markets
So, municipal budgets and the troubles that those are undertaking notwithstanding, you think you can make meaningful changes in 2009 that will benefit the EPS line?
Bill Osborne
I don’t think we have a choice. I think that in this very tough economic environment, we have to provide adequate returns to shareholders and maintain our liquidity, but at the same time some of the growth opportunities that we have, we have a short window to capitalize on.
So, we will undoubtedly have to do both.
Steve Barger – KeyBanc Capital Markets
Okay, to that point, the press release made a lot of references to the strength of ALP, our product line, I think you said that October bookings there were $7.3 million and that implies almost a $90 million annual run rate, so that is becoming a significant part of safety and security revenues, can you tell us what the sequential changes are on a month-to-month basis, how fast is that growing and give us some idea what the margins in that product line might look like?
Bill Osborne
I can’t tell you what the month-to-month growth rate is but compared to the same period last year, it is about 38% growth.
Steve Barger – KeyBanc Capital Markets
Up 38% quarter over quarter, is that what you said or month to month?
Bill Osborne
No, quarter over quarter.
Steve Barger – KeyBanc Capital Markets
Okay, thanks. Any look at the margins?
Bill Osborne
I don’t have that information in front of me.
Stephanie Kushner
We don’t disclose the margins on a specific product line although we have said that the margins on that product line are higher.
Steve Barger – KeyBanc Capital Markets
That’s on an operating basis not just gross?
Stephanie Kushner
It was on a gross basis and it is now on an operating basis.
Steve Barger – KeyBanc Capital Markets
Okay thanks. The new products that don’t necessarily have a direct revenue relationship, things like Codespear and Riverchase, are you seeing buying activity or customer enquiries slow down for those commensurate for some of your legacy products or are you still having fall through from those newer things.
Bill Osborne
We are just rolling out the new products on those. It is too early to say in fact Steve because we are just rolling out the new products and those elements in the fourth quarter.
We are just now launching Speedspike [ph] our time over distance solution. We are just launching the BOSS software and we are just also launching a new low profile PIPS camera all in the fourth quarter.
So, it is a little early to tell.
Steve Barger – KeyBanc Capital Markets
That’s a good line up though and understandably when you launch a new product you are going to have less SG&A absorption but is it your sense that those products are going to be higher than corporate margin or higher than SSG average margin on the operating line?
Bill Osborne
I think additionally they are going to be dilutive only because we have had to ramp up sales efforts as well but we expect those margins to grow over time as we gain traction on an operating basis.
Steve Barger – KeyBanc Capital Markets
Okay. Switching back to one last question on the legacy products, given some of your employees that have been here long time through prior downturns, are you seeing a big variance than you expected relative to your internal budgets and historically have you seen the backlog get cancelled as you go deeper into a downturn from municipalities?
Bill Osborne
So far we have not seen any cancelled orders which we are watching out on a daily basis. When you refer to the tenure of our employees, are you referring just to our costs, our fixed costs or salary costs?
Steve Barger – KeyBanc Capital Markets
No, I am just saying people that have been there through the 2001, 2002 downturn and presumably they are putting budgets together and updating that as they see this situation unfold, and I am curious as to if the variance of downturn is exceeding internally what you have been expecting relative to weakening municipal budgets.
Stephanie Kushner
Let me address that Steve, we have gone back and looked at a lot of the historical data and what is happening right now seems very in line with the last downturn on the municipal side but what is different is that the municipal downturn is happening before the industrial and the last two times it happened in the other sequence. Having said all that, we are concerned now with the weakness of the US consumer that the municipal downturn could be exacerbated this time.
But where we are standing today, it is in line with what we have seen before.
Steve Barger – KeyBanc Capital Markets
Alright. Thanks very much.
I will get back in line.
Operator
(Operator instructions) Your next question comes from the line of Jack Hain with Barrington Research. Please proceed.
Jack Hain – Barrington Research
Hi, I am sitting in for Walt Liptak this morning. Just a couple of quick questions, I was wondering if you can provide me with an updated revenue mix in terms of your exposure to municipal markets versus otherwise just in percentage terms?
Stephanie Kushner
Sure. How about if I give you the absolute numbers, I don’t actually have the percentages and this will be in our Q.
Jack Hain – Barrington Research
Okay.
Stephanie Kushner
In the quarter, our municipal and governmental new business was $64 million, our industrial $57 million, and then our international export about $28 million and $67 million for our internationally domicile businesses.
Jack Hain – Barrington Research
Okay and obviously you are seeing a slowdown in the US municipal spending, I was wondering what your expectations are for Western Europe in that regard?
Stephanie Kushner
We are equally concerned about Western Europe. Everything we are reading gives us indication that there will be some slowing there.
So, our businesses in Western Europe, our businesses in Europe are focused on making sure they are aggressively pursuing opportunities in economies like Eastern Europe, Russia and so on that are still growing but certainly we would expect some softness in Western Europe.
Jack Hain – Barrington Research
Finally, you saw a little bit of margin pressure in fire rescue this quarter and obviously some of that is related to the ramp-up of capacity but just going forward can you provide us with some sort of run rate as to your expectations for that segments growth and operating profit margins?
Stephanie Kushner
You said growth and operating profit margins?
Jack Hain – Barrington Research
Yes.
Stephanie Kushner
This is a business where there is strong franchise, they are increasing their capacity, they have got a very strong backlog so our expectation is that they would be moving into double-digit margins in the relatively new future. I don’t know if that has helped you or not.
Jack Hain – Barrington Research
Thank you very much.
Operator
Your next question comes from the line of Charlie Brady with BMO Capital Markets. Please proceed.
Charlie Brady – BMO Capital Markets
Thanks. When I look to environmental solutions into the last downturn on our margins, has that business changed structurally such that if we go into or we are in another downturn, you would see a margin level that would not go as low as that or would you expect a similar type of margin degradation into an economic downturn?
Stephanie Kushner
There are a couple of things that are working in our favor this time. One is that we combined our Vactor and Guzzler plants, one was an industrial product line and one was a municipal product line into a single facility so that we get some improved flexibility with respect to covering our fixed costs.
The second factor is our Jetstream business which has grown significantly and has quite a bit higher product margins. So those two things are working in our favor.
Probably the thing that is working against us is the fact that the municipal downturn seems to be leading this time and ESG in total, very significant amount of their business is municipal.
Charlie Brady – BMO Capital Markets
Thanks Stephanie.
Operator
As there are no further questions in queue, I would now like to turn the call over for any closing remarks.
Bill Osborne
Thank you Natasha. Let me first say that Federal Signal has performed well in the third quarter.
It was a very difficult environment but we have produced results that I think are a testament to the quality of the team here. I would like to also thank you for your participation and your support going forward.
I look forward to working with all of you over the next couple of years as we work to create a bright future for all of our investors. Thank you very much.
Operator
This concludes the presentation. Thank you for your participation and you may all now disconnect.
Good day.