Oct 26, 2007
Executives
Peter Milligan - Director of Investor Relations. Steve Loranger - Chairman and CEO Denise Ramos - Chief Financial Officer
Analysts
Deane Dray - Goldman Sachs Jeff Sprague - Citigroup Shannon O'Callaghan - Lehman Brothers Michael Schneider - Robert W. Baird John Inch - Merrill Lynch John Balotti - FTN Midwest Steve Tussa - JPMorgan
Operator
Good morning, ladies and gentlemen. My name is Natasha.
Iwould like to welcome everyone to the ITT Industry Third Quarter 2007 EarningsConference Call. All lines have been placed on mute to prevent backgroundnoise.
After the speakers' remarks there will be a question-and-answer period(Operator Instructions). We do ask that you limit yourselves to one question and onefollow-up.
Thank you. It is now my pleasure to turn the floor over toyour host, Peter Milligan, Director of Investor Relations.
Peter Milligan
Thanks, Natasha. Good morning everybody and thanks forjoining us to discuss our third quarter 2007 results.
With me this morning areour Chairman and CEO Steve Loranger, and our CFO Denise Ramos. Steve will provide some highlights for the quarter, Denisewill take us through a detail financial review including a review of eachsegment.
So then talk about our updated guidance and Steve will sum up beforewe move to the Q&A. And the highlight of this morning's presentation, pressrelease and all non-GAAP financial measures provided during the call can befound on our website at itt.com/IR.
In addition, let remind you that ourdiscussion will contain forward-looking statements, which involve risks anduncertainties and actual results could differ materially from projections. Please refer to our annual report on Form 10-K for a fulldiscussion of these risks.
This conference call is being webcast and a replaywill be available later today on our website. With that, I will turn things over to Steve.
Steve Loranger
Good morning, thanks for joining us. We're pleased to reportthis morning that we have executed another extraordinarily productive quarterfor ITT.
On top of continued strong organic growth and operationalproductivity, we made very important changes to our portfolio, including theclosing of the IMC transaction, the definitive agreement to purchase ITOCorporation, and the sale of our switches business. We also continued to run the existing business with a highlevel of operating performance, which resulted in 19% earnings growth.
Ourthird quarter EPS of $0.92 was led by a well-balanced revenue growth of 9% andoutstanding profitability expansion. Our geographic and end market diversification both among andwithin our segments, continues to enhance our ability to deliver consistentfinancial performance because of the good balance of economic and seculardrivers.
This diversification enables solid top-line expansion asstrong growth across most of our end markets more than offsets softness in theU.S. residential and marine markets.
In Fluid Technology, our businessdelivered solid top-line growth in strong operating margin expansion despitethe drag of foreign exchange. Revenue increased 6% organically, driven by growth in allFluid Technology value centers, reflecting solid global end market demand andshare gains.
Over half of our fluid sales were from outside North America, andnotably, in Asia, where organic sales increased 20%. This was also the first full quarter where our advancedwater treatment business was aligned with our flight business.
We are quicklyimplementing a seamless transition to a market facing water/waste waterplatform. Our legacy treatment business is still facing difficultoperating challenges.
However, we are confident that we will be effective inturning around this important piece of our water business. As you've come to know about the ITT management team, whenwe have issues in our businesses, you can count on to us step subpoena anddrive our IMS and our operating excellence processes to fix them.
Finally, Gretchen McClain and her team made great progressadvancing several large and challenging factory challenges. In Poland, Nanjing,and Shenyang, were in the quarter we now have production up and running as wellas furthering our global leverage strageties by integrating our China salesteam.
Within our defense unit, revenue increased 6%, inline withour forecast versus a strong third quarter of 2006. The defense-operatingmargin continued to expand and reached another high point this quarter, thanksto our excellent performance in fixed price contracts.
We also had some very significant contract wins, mostnotably the FAA's ADFB contract. This contract represents the initial phase ofthe next-generation air-traffic control system.
As you know, upgrading theair-traffic control infrastructure in the United States is an enormous andvital job. And it puts us in a nice position for follow-on phases of theprogram.
This is an essential program to upgrade the air-traffic control architecturewithin the United States and it's going to provide greater air trafficproductivity in the future, and for the longer term, it positions us as a primesystems integrator in the marketplace which expands the type of projects we canpursue. We're extremely proud of the defense team on this win and wewant to acknowledge the extraordinary efforts to develop a competitive solutionwith outstanding global partners.
That coupled with the Ito agreement andcontinued high performance represents a great quarter for Steve Gaffney and thedefense team. Turning to motion and flow, Nick Hill and his team continuesto deliver outstanding results.
This quarter organic revenue increased 9%, andtheir operating mar again expanded by 70 basis points, which led to an increasein operating income of 24%. The performance of motion flow control isadmirable.
We benefit strongly from geographic diversification and thisperformance has been generated despite weakness in the marine and leash mark. Our cone knee business has turned around their top line byleveraging their technological positions into adjacent markets.
Our frictionbusiness continues to win platform after platform in a very competitiveautomotive mark and our aerospace and connectors business continue to gainmarket share. As you know, we made the decision earlier this year to makea substantial investment in our motion flow business when we made the IMCacquisition.
This was driven by our objective to build on our attractive motionand flow control technologies in both horizontal and vertical dimensions. The leadership we're seeing from the motion and flow teamgives us hey level of confidence that this will turn out to be a well-placedinvestment.
In September, we were thrilled to transition from the great IMCbusiness that Patrick Lee built to officially welcome the international motioncontrol team into the ITT family, and we're pleased that tippet gracious is offto great start. We have two new value center presidents from IMC.
Wayne Foley,who leads our controls business, and Mike leads our energy absorption valuecenter. And finally, as we move into the last quarter of what hasbeen an excellent year for our company, we remain optimistic about ourcontinued performance is and we are increasing our full-year EPS forecast from$3.44 to $3.50 range, now to a new range of $3.50 to $3.53.
The midpoint ofthis new full-year range yields a very strong earnings growth this year of 23%. And with that we'll turn it the over to Denise to go throughthe financial results.
Thanks, Steve. Let's turn to the results for the quarterstarting on slide two.
On a consolidated basis revenues grew 9% in the thirdquarter, 6% organically, driven by continued strength across all of oursegments. Segment operating income increased by 18%, and margins expanded by100 basis points driven by margin improvements throughout each of the operatingsegments.
EPS on an adjusted basis grew 19% for the third quarter, to$0.92, which is $0.02 above the high end of our guidance range. Also pleasenote that the IMC transaction closed earlier than anticipated and resulted in a$0.02 drag on the $0.92 number I just mentioned.
I do want to remind everyone that the $0.05 full-yeardilative impact has not changed. We are now essential expecting $0.03 of it tohit in the fourth quarter.
Through the third quarter, free cash flow was $432million. We remain confident in our guidance of achieving full-year free cashflow greater than or equal to our net income.
Now let's discuss the results of fluid tech on slide three.Total segment revenue grew 10%, or 6% on an organic basis. Total fluid saleswere driven by excellent international growth of 14% organically.
Sales incentral and South America grew more than 50%, and it's becoming an importantpart of the revenue base. We also experienced tremendous growth in Asia, wheresales were up close to 20%.
Organic revenue increased by 2% and our water,wastewater group. And as Steve mentioned this is the first quarter, where AWThas been combined into flight.
The legacy flight business grew in the high single digits onan organic basis driven by continued growth in the dewatering market and by thesale of large submersible pumps used in municipal application. Unfortunately, the strength was masked by weakness in thelegacy AWT business which saw double-digit revenue declined on an organicbasis.
This piece of the business had positive performance in Europe, butcontinued to struggle in the U.S. Our residential and commercial water business experiencedvery solid 7% organic sales growths overall which was comprised of 4% growth inthe U.S., 9% in Western Europe, and double-digit gains in Asia and EasternEurope.
The commercial side of the business saw double-digit growthdriven by strong aftermarket sales, and continued demand in the commercialconstruction market, partially offset by weakness on the residential side ofthis business particularly in the U.S. Our industrial process business continues to deliveroutstanding results.
This business grew 17% organically, driven by very stronggrowth in the mining and hydrocarbon processing markets. Moving to profitability, fluid tech's operating marginsincreased 40 basis points over the prior year, as we benefited from volumedriven operating leverage.
Let me highlight a few additional points with respect tooperating margins. First, similar to last quarter, the operating margin wasconstrained by the FX impact of the dollar that continued to weaken throughoutthe quarter.
This quarter the impact was approximately 20 basis points. Remember that the nature of our sales and productionfootprint causes us experience lower operating margins with little impact ontotal operating income, when the dollar weakens.
Then secondly, as we mentioned last quarter, our newly openedplant in Poland continues to increase output and the level of duplicative costexperience as we ramp down production in a number of our legacy plants isdecreasing in line with our forecast. We are also seeing greater raw materialprice pressure than anticipated, which is masking strong productivityimprovements.
And finally, turning to orders, fluid experienced a 9%increase on an organic basis, led by double-digit increases in water,wastewater and industrial process. Let's turn to slide four and review the results of ourdefense business.
Defense delivered 6% revenue growth, which was in line withour expectations. This growth was led by our systems business, which increasedsales by 16%, driven by a number of U.S.
military contracts around the globe. Our advanced engineering and sciences business continued itsoutstanding performance and third quarter sales increased by 37% on thestrength of contracts with the joint spectrum task force.
On the product side, our night vision business grew in themid-teens, while our electronics systems and ACD businesses were essentialflat. You recall that by the middle of last year, we had ramped our productionto the current levels at the customers' request and we have maintained thatlevel of production since then.
And lastly, our space business saw sales drop. However, themajority of this related to a tough compare to the third quarter of 2006, whichincluded a large favorable contract settlement.
Looking at profitability, on a year-over-year basis, defense'soperating margin of 13.5% was up 160 basis points, driven by the continuedproductivity performance seen in the product side of the business allowing tous once again raise our full-year margin target. Turning to third quarter orders and backlog for our defensebusinesses, orders increased 7%, moving the backlog to $3.5 billion.
It isimportant to note that as we entered the year, our expectation was for ourbacklog to remain flat versus 2006 levels. And while the exact timing of ordersmakes the next three months difficult to predict, we do believe that we willenter 2008 with a strong backlog that is somewhere in the $3.8 to $3.9 billionrange.
Let's turn now to the next slide and let's look at theresults in the motion and flow control segment. As Steve said, this segment hadanother outstanding quarter, with revenues up 18%, 9% on an organic basis, muchof the growth was from overseas, where we posted double-digit revenueincreases.
Within aerospace controls, revenue grew 26% organically aswe continued to deliver excellent products into a very strong market segment.Our friction business delivered 14% organic revenue growth as it continues towin new platforms, particularly in the European market. Within marine and lee sure, organic revenue grew 3% led byvery strong export sales in our marine business.
And strong industrial flowcontrol devices in the construction and medical markets. However, offsettingthis strength was continued pressure in the spa and whirlpool business.
This is very consistent with overall market trendsexperienced in the U.S., where the whirlpool bath and spa market continue todecline. Our KONI business has delivered its second straight quarter, whereorganic revenue growth approached 11%.
This has largely resulted from oursuccessful penetration into the bus, truck, and railway markets. Lastly, our connectors business had another strong quarterwith sales increasing 7% organically.
In addition, bookings in Asia and NorthAmerica added to the strong backlog and drove a book to bill greater than onein the quarter. Looking at profitability, segment margins of 14.3%represented an increase of 70 basis points on a year-over-year basis as wecontinue to deliver productivity improvements.
In addition, it is important tonote that the three weeks of IMC results was comprised of $11 million ofrevenue and $2 million of net operating loss. This had the effect of lowering margins by 130 basis pointsin the quarter.
Finally, the motion and flow segment saw its organic ordersincrease by more than 13% during the quarter, led by growth in KONI andfriction, which both saw orders increase by more than 20%. Now let's turn to slide 6, where I’ll review the company'srevised earnings outlook.
We expect ITT's fourth quarter revenue to increase11%, which translates into full year revenue growth of 12%. This does includethe full fourth quarter impact of IMC revenue, which was not in the baseperiod.
We anticipate fourth quarter segment operating margins to bebetween 13.1% and 13.3%, and believe our full year margins will be in the 13.2%to 13.4% range. Our fourth quarter EPS target is $0.90 to $0.93 and themidpoint of our full year target has increased by more than $0.04, bringing thefull year to a range of $3.50 to $3.53.
Looking at the changes in the full year outlook for oursegments, we are forecasting an increase in revenue of nearly $50 million influid, more than half of which relates to the impact of foreign currency. In the defense business, the midpoint of our revenueforecast has increased by $30 million based on the strength in systems andadvanced engineering and sciences.
On the margin side in defense, we haveincreased our forecast by 20 basis points to reflect the better than expectedperformance we saw this quarter. In our motion and flow business, we are increasing themidpoint of our revenue forecast by $80 million.
This reflects the full impactof IMC revenue, which should be in the range of $60 million, including the $11million it contributed in the third quarter. The remaining increase is essentially split between the FXbenefit and some incremental demand we are seeing across the base business.
Thefull-year margin is now being adjusted down to a range of 14.4% to 14.6%, andthis change is entirely attributable to the impact of the IMC acquisition. As we have mentioned previously, the up-front integrationcosts and intangible amortization drive this dilutive effect.
Now, I would liketo turn things back to Steve for a few additional comments before we move tothe Q&A.
Steve Loranger
Thank you, Denise. Let me close by saying that we're pleasedwith the performance of that our organization has achieved year-to-date.
We aredelivering on what we've set out to do, which is to generate strong organicrevenue growth, increase productivity, and effectively reinvest our capital ina balanced way. In short, our overall corporate strategy is working.
Thiswas an extremely busy and productive quarter, and we're now working hard todetail our 2008 operating plans, which we're going to share with you at ourupcoming analyst meeting in a few weeks. And at that time, we'll have the opportunity for ITT'ssenior leadership team to share the strategies behind their business successand discuss what they see in terms of future opportunities.
So, let me turn things back over to Peter, and we'll beginthe Q&A session.
Denise Ramos
Thanks, Steve. Natasha.
IF you could introduce theinstructions for placing a question.
Operator
(Operator Instructions) Your first question comes from DeaneDray of Goldman Sachs.
Steve Loranger
Good morning, Dean. Dean, you are maybe on mute?
Deane Dray - Goldman Sachs
Yeah.
Steve Loranger
All right.
Deane Dray - Goldman Sachs
Sorry. Can you hear me now?
Steve Loranger
Yes.
Deane Dray - Goldman Sachs
Sorry.
Steve Loranger
All right.
Deane Dray - Goldman Sachs
Steve, could we go to your prepared remarks we talk aboutthe operating challenges in the legacy water and wastewater businesses? So, itsounds like we're not going to get a chance to talk about the AWT going forwardas it's combined with flight, so while it goes into the segment or into thebusiness, on a consolidated basis 2% organic revenue growth is very healthy,but there's still some legacy issues in it.
If you could just step through those, how much of that is aportfolio change that you might do, as a productivity initiative that you mightaddress, and are there any specific end-market topics, you think will be a headwind?
Steve Loranger
Okay, Dean, we're going to still, despite the fact that weare integrating this into three market-facing platforms, we'll still break outtreatment as to be able to discuss those technology platforms. So walking through it, keep in mind that treatment is, forthe most part, a series of technologies.
In the biological segment, we'reoperating very well. We're well positioned in continuing to invest there.
We do need to invest more to upgrade our technology inultraviolet and ozone. And in the fresh water filtration segment, notablyLeopold, we're extremely well positioned in North America and we're going tocontinue to invest in those technologies for global expansion.
And then finally, we participate in the small-scale reverseosmosis filtration and desalination markets, and that's an area also where wewill continue to invest in our systems and explore further desalination intocommercial and industrial markets. So underneath this, what I'm saying is we have a number oftechnology investments to ensure that the technologies in the treatment areacan be flowed into the municipal, industrial, and commercial market segment.
Inaddition, we also have some product line activity in place, where we'll bemigrating some production from various locations to others to ensure that we'releveraging our scale. And that's all part of the www or water/wastewaterintegration plan.
Deane Dray - Goldman Sachs
Great. That’s very helpful.
And just a follow-up Denise thatI hear correctly when you walked through the integrated water business theresidential piece in the U.S. was up 4%?
Steve Loranger
No, did you not hear that Deane. The residential portion inthe United States is obviously off.
Off in the business, but when you walkthrough the math, since we all know that U.S. housing is down, that iseffectively; that's effectively impacting us in the order of $10, $15 million.
So it's of top line in residential. Because the -- becauseeven though we participate in that business, it's only about 5% of FluidTechnology and two-thirds of that 5% is roughly aftermarket.
And so it is downa couple of percent on a year-over-year basis, but we're absorbing it. On the flip side, our commercial businesses in NorthAmerica, in terms of buildings, are up about in the 10 to 15% range.
Yeah,Deane, just it’s a so you know, it's down 4% in the U.S. and the residential isdown 1% globally.
Deane Dray - Goldman Sachs
Got it. Thank you.
Operator
Thank you. Your next question comes from Jeff Sprague ofCitigroup.
Jeff Sprague - Citigroup
Thank you. Good morning.
I guess, two sets of questions.First, defense margins obviously, very impressive again. Just wonder if youcould give us a little more color on kind of the mix underscoring thatobviously looking at the very strong systems and services growth that wouldkind of technically blend you lower.
You talked about good fixed price contract performance, butif could you give us a little more color on that, and if there's some positivecontract developments or something else in the quarter that underscored thoseresults?
Denise Ramos
Let me comment on that. There was nothing unusual in thequarter that would have produced a higher number than we would have expected.It really does have to go -- is focused on all of the strong productivityinitiatives that we've had on the product side of our business.
So we're very, very happy with what we saw in the third quarteron the margin. As you've indicated, though, as the portfolio begins to shiftmore to the services side we do expect to see the margins come down from thesevery high levels and we have articulated a long-term margin rate of about 10.5to 11.5%.
While we don't see that immediately, we will trend to that,and we do expect that the defense margins in Q4 will come down from the levelthat we're seeing in Q3.
Jeff Sprague - Citigroup
Should we putting the mix issue aside, if we look at systemsand services themselves, is there any change in the underlying margin in thosebusinesses around the type of contracts you're doing or where you're doing itor anything like that?
Denise Ramos
No, nothing of significance. Every now and then we'll see ashift in terms of what makes up that service business, but in general it'sabout 7 to 8% and we really don't see any change in that.
Jeff Sprague - Citigroup
And just to go back to AWT, I know this is kind of the tailthat always seems to wag the dog on the call here, but, Steve, your answersounded maybe a little bit different than what I heard before, in that I think,previously it seemed like the issue was just the sales force wasn't orientedand maybe you had kind of these group of businesses that weren't actingco-recently in the marketplace. Now, what kind of sounds like maybe they don't have kind ofthe products and technologies that you think they need to really succeed.
Is itboth of those issues now, or is it really just more of a product issue at thispoint?
Steve Loranger
Jeff, it's safe to say that it is in the aggregate both ofthose issues, but keep in mind that as we think about how to drive businessesfor operating performance, we're always addressing all of those issues. When you think about the fact that Gretchen and her teamhave been organizing into three market-facing segments that, in and of itself,is very responsive to the sales force issue that we were facing the sales forceas well as customer access issue that we were facing in treatment.
We had 140 sales people in treatment that we integrated withover 1,000 sales people inflect as well as our residential and industrial salesforces, and that's giving us a good participation. So we're still working that side of it.
We're looking atmaking the business the back-end business processes leveragable with some ofthe base capabilities inflict and now we are turning our attention to insuringthat our engineering investments continue to make the products viable in themarketplace. And I would say that's a very selective statement,principally around our ultraviolet and ozone technology.
In the balance of thetechnologies we're pretty well positioned, but as we think about the future, wewant to make sure that we've got the best products for the marketplace.
Jeff Sprague - Citigroup
Great. And maybe just update on the process with Ito, ifthere's anything you could add, obviously, the stock is trading above youroffer.
I don't know if there's anything you clearly say that, but…
Steve Loranger
No, Jeff, we obviously very much like the acquisition. It isvery complimentary to our existing defense businesses, and we think thecombination with the ITT and Ito properties is going to be excellent.
Things are progressing on schedule. We filed the proxy, asyou may know, on Wednesday, and the Hart-Scott-Rodino filings were made by bothcompanies in early October.
What's to happen next is once the proxy is finalized, whichshould happen in the next week or so, the vote, the shareholder vote, will bescheduled, and we sort of -- we would just maintain what we said before as wecan't obviously predict the exact timing, but we're pretty confident thetransaction will close in early 2008. So, all-in-all things are on track, and we feel good aboutthe -- feel good about this acquisition.
Jeff Sprague - Citigroup
Thanks a lot.
Operator
Thank you. Your next question comes from Shannon O'Callaghanof Lehman Brothers.
Shannon O'Callaghan - Lehman Brothers
Good morning, guys.
Steve Loranger
Hello, Shannon.
Shannon O'Callaghan - Lehman Brothers
Can you give a little more detail, in this quarter we hadsome of the pieces of defense move around with the space down big, you mentionedthe comp issue. I mean, just as you think about fourth quarter next year, canyou give little over view in terms of the relative pieces -- you're expectingto be down big or up big?
Steve Loranger
No, no…
Denise Ramos
Let me just answer.
Steve Loranger
Go ahead.
Denise Ramos
Let me just answer, something and Steve, you can jump in.We're going to be talking more in a couple of weeks about next year, so a lotof that commentary you will hear at that point in time. From a sales perspective, we've always talked about an 8% to10% growth in our sales rate.
And we have no reason to change that at thispoint in time. And what we've also said is that as a product-side of ourbusiness ramps down we're ramping up the services side.
And you saw that in Q3 with some of the very strong resultsthat we had in the services side of our business. So, from that perspectivethere's -- we still expect the 8% to 10% range.
Steve, do you want to addanything?
Steve Loranger
No, Shannon. No major shifts.
Denise and I just reviewedwith Steve Gaffney and the team the 2008 revenue and backlog plans, and as istypical this year we sit in pretty good situation in terms of booked,authorized, and probability to be authorized that gives us confidence in the 8to 10 zone next year, and no major mix shifts are anticipated.
Shannon O'Callaghan - Lehman Brothers
Okay, great, thanks. And then on -- I guess just on the ACDbusiness, I mean, the production has find matters, is there any pressure, thatyou're seeing to take that higher and just also maybe a comment on side.
Steve Loranger
No, right now we're lockstep with our customer, and we thinkwe're going to maintain that production rate for a while. And actually, I thinkwith respect to side yet, no orders parse, but we believe that this overallsituation is constructively unfolding about the way that we've beencommunicating for the past several years.
And that is that our customer, the U.S. military iscontinues to contemplate the best path to achieve the advanced intraoperabilityand the overall communication integration of the jitters framework.
They continue to explore innovative ideas from a lot ofindustry participants, obviously, including ITT. And as you know, then, thatwith respect to our advanced technology, such as the Side Hat and the SoldierRadio Wave Form, we already offer much of the desired interoperability andcapability in our segment of the Jitters piece.
So as this evaluation is ultimately unfolded, we'reconfident that we're going to participate meaningfully in the future designs.And I think that that strategy has been validated by continued high productionrates of singers the last several years and the fact that we've got goodbacklog in place for next year validates that strategy.
Shannon O'Callaghan - Lehman Brothers
Okay. Thanks.
Just one more from me. On fluid tech youmentioned material costs there.
Can you give us a sense, are you getting pricenow? Is there more you can get?
What kind of contribution are you looking forthere in terms of offsets?
Denise Ramos
Let me comment. In terms of material costs we are seeingfluid getting hit harder than our other segments with fluid costs because ofthe specialty metals that go into this even product.
So they've been impactedpretty hard, especially on some of the commodities with nickel and chrome andcopper. We've been able to offset some of that through the globalsourcing initiative we've had underway for a couple of years, so that hashelped.
We have also seen some price increases that we've been able to flowinto that marketplace to help offset some of that also. So on balance we're seeing some hit associated with that,but we've taken advantage of supply chain and some pricing.
Shannon O'Callaghan - Lehman Brothers
Okay. Is there more to come, you think, or is this it fornow?
Denise Ramos
In terms of what?
Shannon O'Callaghan - Lehman Brothers
In terms of pricing.
Denise Ramos
In terms of pricing or it's something that we always lookat, whether or not we're going to take any, I'm not certain at this point intime.
Shannon O'Callaghan - Lehman Brothers
Okay. Thanks very much.
Steve Loranger
Thanks Shannon.
Operator
Thank you. Your next question comes from Michael Schneiderof Robert W.
Baird.
Michael Schneider - Robert W. Baird
Good morning.
Denise Ramos
Good morning.
Steve Loranger
Hello, Michael.
Michael Schneider - Robert W. Baird
Wonder if we could start with the orders in fluid tech. Iguess the surprising element is that you did 9% organic growth against thecomparison of last year, which I think is the toughest.
Did you 5% a year ago.Can you walk through what changed? Because it seems to be substantially stronger than the 6%revenue growth you reported for the quarter.
Did something accelerate duringthe quarter? Were there any enormous project booked at IPG?
Just some color.
Denise Ramos
The one thing I would point to is just what you said. A lotof it is on IT side.
We've been seeing a lot of strength there in the largeproject sales, and that really has to do because of the strength that we'reseeing on commodity front in mining and the oil and gas market. So that is really strong with us, and on a year-over-yearbasis we're seeing very strong order growth for that.
On the other thing, justthe legacy www, the flight business, that continues to be strong with us for usorganically also.
Michael Schneider - Robert W. Baird
Okay. And did AWT make some progress during the quarter juston orders?
Denise Ramos
No, you know, AWT continues to struggle. They're strong inEurope.
It's weak in the U.S. And so, you know, we're still having somechallenges from an order perspective there.
Michael Schneider - Robert W. Baird
Okay. And then just industrial process and Asiaspecifically, it seems like that's hit an inflection point and that market hasbeen strong for sometime.
Is there some new strategy or some new presence thatyou've got in Asia to explain the acceleration there?
Steve Loranger
Well, we've been, Michael, we've been doing a lot of work inAsia. We have been hiring a number of new sales people, and we've continued totransition some of our products, so I would say that particularly in thepremium segment of the business, we've been succeeding pretty well.
In Asia, weare seeing very strong markets in the chemical, oil, and gas components. So wefeel good about our industrial position there.
Michael Schneider - Robert W. Baird
Okay. Then final question.
When I was in Stockholm meetingwith the flight management, it seemed clear that there is, now that they'reresponsible for this AWT division, a renewed emphasis on R&D spending andmaybe closing some of the technology gaps that you've at least alluded toearlier. Does that spending cycle impact your margin goals in fluidtech to improve the margin?
I believe it's 80 to 100 basis points a year?
Steve Loranger
Michael, first of all, we are going to invest to ensure thatwe sustain high levels of organic growth. But I think you can always expectfrom me that we hold our businesses accountable for an equal component ofproductivity.
And so as we've been detailing these operating plans, wehave been asking for our Fluid Technology business units to increaseengineering investment, as well as increasing some selective selling andmarketing investments where we want to put capability in emerging markets. But at the same time, we hold -- we're doing a lot ofrepositioning, global sourcing, a lot of lean activity, and all in all we'regoing to continue an appropriate level of margins and earnings growth in theprocess.
Denise Ramos
And just to add into that, in terms of a margin impact foradditional R&D spending, we're not looking at anything that would be really-- that would be really significant.
Michael Schneider - Robert W. Baird
Okay. Thanks and great quarter.
Denise Ramos
Thank you.
Operator
Thank you. Your next question comes from, John Inch ofMerrill Lynch.
John Inch - Merrill Lynch
Thank you good morning.
Denise Ramos
Good morning.
John Inch - Merrill Lynch
Hi Denise why again do defense margins come down in thefourth quarter? Can you just sort of a remind us was there any thing I know you– I know -- I heard your comments, but was there anything that was pulled fromfourth into third?
Denise Ramos
No, John, there was nothing that was pulled from fourth intothird to produce the high margins into Q3. It really is a mix shift where we'regoing to see more of the services business as being part of the revenue therethan we saw on the -- in Q3.
John Inch - Merrill Lynch
And is that specific to 2007, or do you traditionally seethis mix shift occurring in the fourth quarter?
Denise Ramos
No, you know, I would say in general we've been talkingabout this shift that's going to occur in the defense business as we win moreon the services side. So, it's nothing that happens from an -- on an annualbasis.
It's just a shift that we've been talking about that we're going to beseeing.
John Inch - Merrill Lynch
If I read between the lines, I mean it sounds like the sidehat could be in 2008 event. Is that reasonable, and, you know, presumably it'sgoing to be prospectively very accretive to your defense margins is that alsothe way we should be thinking about this?
I know that's not what your guidance is going to be, but ifwe're looking for some up side next year from obviously the defense margin thatare very high could that be one of those catalogs?
Steve Loranger
John, we are -- I can't speculate on that because I thinkwhat I was saying earlier was that the timing of the side hat orders is quitefrankly involved with the overall U.S. Government's evaluation of variousinteroperability options in the overall jitters framework.
Clearly if it happens, the side hat would be an upside, butwe can't speculate on the timing because at the evaluation in terms of the bestpath towards the ultimate goal of jitters is quite frankly fairly complicated,a lot of government constituents and technologies are involved. So we can'treally speculate on the timing.
John Inch - Merrill Lynch
But, are there -- Steve are there milestones? It just seemsto me that this whole jitters versus side hat debate has actually gone on forquite a long time.
Is why just part of the bureaucratic process, or are therethings that to have get worked through that, perhaps, as external parties wecould benchmark or think about?
Steve Loranger
Well would look at it this way. Not part of bureaucraticprocess, but obviously in its ultimate and clean sheet of paper form, thejitters as it was envisioned several years ago is a massive expensiveundertaking.
And what used evident to the user community is that a numberof adaptive hybrid technologies from not only ITT but other industryparticipants are indeed available that could ultimately be better value, lowercost type options. And so the U.S.
government in my view is being veryresponsible in terms of trying to evaluate what the best path is through thisto see how they can ultimately achieve the goals of a fully networkedintegrated communication system and use some of the existing technology. So, I'm just saying it is a big undertaking, and it'scomplicated, involves a lot of different components besides just the radio.Remember, there's vehicle’s communication center there’s airborne issuesthere’s data processing issues.
A lot more to jitters than just the radiocomponent.
John Inch - Merrill Lynch
Yes hey, last for me, Steve, with Ito, your mix of defenseis going to be well over the 50% mark. Or you guys after lot of great marketpositions and technologies there's still going to be this view I suppose, byseveral people that, feeder operations in the Middle East are going to bewinding down.
I mean does this put strategic pressure on you, perhaps, orITT to redress that balance and look to some industrial M&A activities toperhaps put ITT back on more of an industrial.
Steve Loranger
Let me answer in this way. We recognized the increase in thedefense component, but in that and of itself is going to continue to be a very,very strong value creator, particularly with the combined acquisition,independent of the current activity that we have.
The reason is that the world has changed, and that when wethink about how contemporary defense and intelligence networks are being operated,those technologies that are around sensing, surveillance, communications,information technology are going to continue to be more vital. So we feel goodabout that platform.
On the flip side, we are through this process, intending tomaintain, a strong balance sheet and economic currency to be able to continueto grow our industrial and commercial markets, particularly globally. We'll doso on a strategic and value based analysis, but nonetheless, I think would youexpect that's where our -- that's where our next activity would be.
John Inch - Merrill Lynch
Understood. Thank you.
Steve Loranger
Thanks, John.
Operator
Thank you. Your next question comes from John Balotti of FTNMidwest.
John Balotti - FTN Midwest
Good morning, Steve.
Steve Loranger
Hello, John.
John Balotti - FTN Midwest
How are you?
Steve Loranger
Great, thank you.
John Balotti - FTN Midwest
I got a couple just a quick questions. Denise, I believe youmentioned when you went over the updated segment revenue and profitability thatyou mentioned that the increase in fluid was currency related.
Is that correct?
Denise Ramos
Yes, that had to do with the guidance that we gave for thefull year.
John Balotti - FTN Midwest
Right.
Denise Ramos
We increased our revenue, and most of that was FX related.
John Balotti - FTN Midwest
Right and since, we know there's a natural hedge betweenrevenue and margins at Fluid Technology, the fact that the margins stay thesame with higher revenue with FX, and also you mentioned the headwinds withmaterial costs, can you just characterize the underlying profitability in termsof how you see it now versus how you see lets say it in the beginning of the year?
Denise Ramos
You mean in terms of their margin…
John Balotti - FTN Midwest
In terms of, if you have higher revenue with currency andthere's an offset on the margin, does it imply that the underlying businessyou're seeing, because of actions you've taken before, that you're seeingimproved margin underlying the currency and underlying the material costs?
Denise Ramos
Well, we are see going productivity improvements there,which is why when you look at the margin improvement that we saw in thisquarter what we indicated is that we were hit by about 20 basis pointsassociated with that. So, everything else being the same, if the foreign exchangewas the same as what it was a year ago we would have seen 20 basis points inaddition to the 40 basis points that we saw.
It is true that when you look atit on a net income basis, it's basically a wash, just because of theirfootprint and how the sales and production flows from how they're structured. So, yes we see something on the top line.
It does it impactour margins but from a net income perspective it's basically flat.
John Balotti - FTN Midwest
Okay. And then return on invested capital, I assume that itwas basically flat because of the timing of the closure of IMC.
Denise Ramos
We were about 17% ROIC on how we look at it. IMC does impactROIC to some degree, roughly 40 to 50 basis points.
John Balotti - FTN Midwest
Okay. And then, finally, on the share repurchase, I think,if my numbers are right that there's about roughly $700 million or so left tinauthorization, and I would imagine the third quarter was quiet because of Itoand IMC.
Is that fair?
Denise Ramos
Yeah, that's fair. In fact we -- we have the billion dollarprogram.
Under that billion-dollar program, we've repurchased about $350million to-date.
John Balotti - FTN Midwest
Okay.
Denise Ramos
All right. So, we have about 650 left to go.
And, yes, Q3was -- we only repurchased $5 million in Q3, and that was because of the ITOacquisition and the transaction we were working on.
John Balotti - FTN Midwest
Okay. Great.
Thanks, very much.
Steve Loranger
Thanks. Natasha, we have time for one more question.
Operator
Thank you. Your final question comes from Steve Tussa ofJPMorgan.
Steve Tussa - JPMorgan
Hi, good morning. Just two quick questions.
The first one,I'm still not quite clear, been a lot of good questions asked on defense butthe margin there longer-term, it's continued to surprise to the upside is andyou guys have a good backlog there and you talk about how visible it is. What are you missing might be at the beginning of the yearwhen you forecast this thing, and then obviously coming out on the good side ofit, so we're not going to ding you for that.
Then what is really the risk hereas you go forward, you're flattish now object the Syncar stuff and there aresome very interesting and attractive opportunities coming up. Is there any potential for your customer to come back andsay, you guys are making great money on this stuff, give us a little back onthat, so we'll be a little more favorable to you going forward on some of thesecontracts?
I'm not sure how that stuff works, but I'm just curious asto, I guess, just to longer-term sustainability of this defense margin. I'm notquite clear why it continues to surprise to the upside.
Steve Loranger
Steve, I think the answer is really simple. We have anexcellent operating team in defense, and we push the defense team forproductivity like we do in every one of our segments.
And this year,particularly in our product segment businesses, we did have above planproductivity. As an example, Mike and the team down in Night-vision hadsome breakthroughs in lean manufacturing with respect to tube yields, which isa fundamental issue in terms of cost on our fixed price Night-vision contract.
And we had many successes. So, quite frankly, we're proud ofit.
That said, you did mention the fact that the government contracting, it istrue that as you renegotiate contracts, whether it's fixed price or cost plus,there always is a great daily of cost negotiation, cost visibility, andovertime, you do tend to give that back in either your rates or your costassumptions in the contract. That's why defense margins in our business don't continue toexpand and why we always come back and say, on a periodic basis, you know,we're pleased with the results, but think about 11%, 11.5% as sort of along-term sustainable, given margin, given the mix of our service, our product,our cost-plus and fixed price mix.
Steve Tussa - JPMorgan
So you're sticking to that target net, and I'm not at themoment with you, so I'm not sure if you're saying it with a straight face ornot but you've really blown that target away for the last couple of year.You're sticking with the 11 to 11.5 for the longer term?
Steve Loranger
Yes, we are. And that does recognize, Steve, the fact that,we do see a slight increase with respect to the service component as well asthe cost plus component.
And both of those are negative to margin expansion.
Steve Tussa - JPMorgan
Okay. One last quick one detailed one.
I'm just not quitegetting to your guidance for the fourth quarter. If I take the high end of yoursales range and the high end of your margin range, maybe this is just rounding,I’m getting to something like a 13.5% operating margin, if I back into what theOP number is for fourth quarter.
Is there something below the line, its going to be maybe alittle bit more of a drag that gets you to the $0.93? I'm having a hard timegetting down to that 39 using your annual assumptions and back end of thefourth quarter?
Denise Ramos
Yeah. You'll probably find there's a little bit more on theinterest side associated with IMC.
Steve Tussa - JPMorgan
Okay.
Denise Ramos
So, we can work through that in detail with you after thecall.
Steve Tussa - JPMorgan
Okay. Appreciated.
Good quarter. Thanks.
Denise Ramos
Thanks.
Steve Loranger
That's it. And so we'll wrap up now.
Paul and I will be hereall day to answer any follow-on questions and we'll look forward to seeingeverybody up a couple weeks in New York City.
Operator
Thanks a lot. Thank you.
This concludes today's ITTindustries third quarter 2007 earnings conference call. You may now disconnect.