Jul 31, 2008
Executives
Pamela Huggins – VP and Treasurer Don Washkewicz – Chairman, CEO and President Tim Pistell – EVP, Finance and Administration and CFO
Analysts
Nigel Coe – Deutsche Bank Alex Blanton – Ingalls & Snyder Jamie Cook – Credit Suisse Jeff Hammond – KeyBanc Capital Markets Joel Tiss – Buckingham Research David Raso – Citigroup Terry Darling – Goldman Sachs Ann Duignan – JP Morgan Eli Lustgarten – Longbow Research Robert McCarthy – Robert W. Baird
Operator
Good day, ladies and gentlemen, and welcome to the Parker Hannifin fourth quarter and full year earnings release conference call. My name is Sylvana, 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) As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today's call, Miss.
Pamela Huggins, Vice President and Treasurer. You may proceed.
Pamela Huggins
Thank you, Sylvana. Good morning everyone.
As Sylvana said, this is Pam Huggins speaking and I'd like to welcome you to Parker Hannifin's fourth quarter and fiscal year 2008 earnings release teleconference. Joining me today is Chairman, President, and Chief Executive Officer Don Washkewicz and Executive Vice President and Chief Financial Officer Tim Pistell.
Prior to proceeding to the earnings release, just let me address a couple of administrative matters. First, for those of you online, you may follow along with the PowerPoint slides that have been presented.
For those of you not online, the slides will be posted on the IR portion of Parker's website at phstock.com. Second, as is customary, I would like to call your attention to Slide number 2, which is the Safe Harbor disclosure and forward-looking statements, and again ask that you to read this statement in its entirety if you haven’t already done so.
Third, moving to Slide number 3, this slide is required, indicates that in cases where non-GAAP numbers have been used, they have been reconciled to the appropriate GAAP numbers. At this time, moving to the agenda on Slide 4, the call will continue to be in four parts today.
First, Don Washkewicz, Chairman, President, and Chief Executive Officer will provide highlights for the quarter. Second, I'll provide a review including key performance measures of the quarter, concluding with the outlook for fiscal year 2008.
The third part of the call will consist of our standard Q&A and again only ask one question at a time. You can always get back in the queue.
In this manner, everyone will have a chance to participate. And for the fourth part of the call today, Don will close with some final comments.
At this time, I'll turn it over to Don and ask that you refer to Slide number 5 titled ‘Fourth Quarter and Total Year Highlights.’
Don Washkewicz
Well thanks, Pam, and good morning to everyone on the call. I just like to start off with a few comments and a couple of highlights for the quarter and then the year that just finished, and then Pam’s going to come back for more detail.
Just a couple of comments and highlights. We are certainly very, very pleased that we are able to deliver yet another record year for the Company.
This is going to sound a little bit similar to what happened last year at this time, but when I talk about records, I am talking about you know we have never achieved these records in the history of the Company, a 90-year history of the Company. So, we are very excited about that.
Record sales. We’ll talk a little bit more about record sales in a few moments.
We had record earnings, earnings per share, and operating cash flow. We are excited about that.
Record return on sales of 7.8%, and operating margin of 14.1%. and at this point in the cycle, that we think is great performance for the Company.
We had record Industrial operating margin of 15.1%, and an International Industrial operating margin of 15.8%. So, as you may recall those that have been following us for a number of years, we had set our targets of hitting 15% operating margin in the Company.
So you can see we are doing that in at least a couple of the segments of the business. And we are going to continue to work on that.
We’ve had record productivity, which now for the first time ever has exceeded $200,000 in revenue per employees and it wasn’t that many years ago when that number was more like $125,000-$130,000 per employee. So we’ve made progress in all of these areas.
Just to come back on sales for a moment, this is the fifth year in a row that we have produced record sales. We are now surpassed $12 billion in sales for the first time.
And that’s an increase of 13% from prior year. And just getting underneath that 13%, about 5% of that was organic.
And we think that’s great performance in light of the fact that the GDP is not growing anywhere near 5%. So we think that – at a 5% organic growth has been very, very good performance for the Company.
Just a comment on the international markets. Our International Industrial sales grew 28%.
So the rest of the world is doing very well. And I think even more significant than that, on that 28% increase in sales internationally, our Industrial International operating margin grew 48%.
So, pretty exciting – lot of activity going on outside of North America. And so you’ll ask most likely you know just what’s causing all of this and I keep bringing everyone back to the fact that we are going to continue and have been continuing with the ongoing global execution of our Win Strategy.
We launched that back in 2001 and we are going to continue and stay focused on that for many years going on into the future. So, it’s really the execution of Win Strategy that’s bringing these results that you are seeing today.
I’ll just comment a little bit on Aerospace. It’s another highlight of 2008.
Our Aerospace group has had a great success this year in securing long-term contracts. Of course, you can see that it’s impacted our margin somewhat.
We have spent about $24 million more in research and development this year than we did last year. But as a result of that investment we are bringing in contracts that are worth $8 billion.
That’s just this year. If you go a few months beyond that, the numbers are even over $10 billion in new contracts.
So, we are working hard on innovation in the Aerospace group. They have done a great job.
They are working on critical systems for aircraft and that’s obviously the fuel, flight controls, and hydraulic systems, and we are pretty excited about the progress that they have made this year. There is a lot more yet to be had.
We are bidding and quoting on additional new business. So there is more coming as far as good announcement we think in the near future.
Another comment that I just like to make is on cash flow. Our cash flow from operations continues to be extremely strong.
we reached almost 11% of sales this year, and now it’s $1.3 billion. This is the first year in the history of the Company that we’ve exceeded $1 billion in cash flow.
So, it’s another mark for the Company. We made 10 acquisitions.
We set out this year and said that we are targeting 5% growth from acquisitions. We made 10 acquisitions, brought in about $540 million some in additional annualized revenues.
So, we met our 5% commitment in growing from acquisitions. And we also invested this year a little over $1 billion – $0.5 billion in three purchases – 7.9 million common shares of Parker.
We also increased dividend for the 52nd consecutive year. There is only a handful of companies that can claim that record.
And we increased the dividend 21% with a payout of about $142 million. So, we are returning to the shareholders as well in those areas.
The markets, just a couple of comments on the markets. Our total orders were up 8%.
You saw that in the press release. This is in this quarter compared to a year ago same quarter.
Additional or continued strength I should say is coming from the International Industrial business and our Aerospace segments. I already mentioned Aerospace.
Distribution remained strong. And that’s about half of our Industrial business, and we expect that channel to continue strong going into the future.
Some of the North American markets, and we have talked about this in the past, continually weak. And these would be like automotive, heavy duty truck, residential air conditioning, light construction equipment, semiconductor manufacturing, just to name a few.
And these markets, we would characterize here in the Company, these markets are in recession, and they have been in recession for some time now. So, hopefully, as they come out of their recession, we are going to enjoy some of the upswing from those markets as well.
So, with that, I am going to turn it back over to Pam and she will give you a little bit more detail on the quarter and the year.
Pamela Huggins
Thanks, Don. Turn to Slide number 6 if you are online and I will begin by addressing our earnings per share for the quarter.
As you saw in the press release this morning, adjusted earnings per share for the first quarter is $1.55, and this represents a 26% increase over the $1.23 in the fourth quarter a year ago. This $1.55, as you saw in the press release as well excludes the charge of $0.08 per diluted share as a result of establishing a contingency reserve associated with a previously disclosed litigation.
Just to provide a little more color on that. A $20 million pretax contingency reserve was established in connection with litigation that Parker is involved in.
This litigation involves a small subsidiary company that Parker acquired in January 2002, and this has been previously discussed in several 10-Qs. If you include the $0.08 just described for the contingency reserve, earnings per share is $1.47.
The out performance in the quarter continues to be the result of the International portion of the Industrial segment where income has increased 49%, as Don mentioned. For the full year, excluding the charge of $0.08 for the contingency reserve, adjusted earnings per share increased 20% to $5.61 from $4.68 a year ago.
The out performance for the full year was mainly the result of the Industrial International segment, which led the performance with a 48% increase in operating income. (inaudible) you will find the positive product in geographical dispersion of the business.
Parker now operates around the world in 43 countries International including emerging markets, more than offsetting negative effects of a challenging North American environment. Moving to Slide 7, on a consolidated basis, excluding the $0.08 for the contingency reserve, diluted earnings per share grew 26% in the quarter versus the same quarter a year ago as a result of the following – increased revenues in the quarter of 16%, again, mainly due to Industrial International and Aerospace segments with revenues up 28%, and 15%, respectively; also had an increase in gross margins for the quarter of 40 basis points versus last year.
this improvement in gross margin is in spite of the inflationary environment that you are all seeing, and illustrates the continued focus on the Win Strategy initiative throughout the organization; an improvement in selling, general, and administrative expenses as a percent of sales, 50 basis points for the quarter, mainly the result of lower incentive compensation; and fewer outstanding shares as a result of the share repurchase program that Don mentioned as well. So, higher earnings as a result of all these items I just mentioned were partially offset by lower North American segment operating income; lower CIC segment operating income due to exposure in several North American soft markets, and we have talked about that several times on several of the calls; higher interest expense, mostly the result of higher debt due to acquisitions, and the share repurchase program, however, we should note that as a percent of sales interest expense is flat compared to last year; higher other expense as a result of the contingency reserve that I have discussed already; and then higher taxes mainly due to increased income, but also due to a lower tax rate in the fourth quarter last year as a result of foreign sales tax credit.
So, just to summarize these puts and takes from the fourth quarter on a per share basis versus a year ago, operating income contributed $0.27; less outstanding shares mainly due to share repurchases contributed $0.05; and these positive contribution were partially offset by higher corporate G&A of $0.01; additional interest expense of $0.01; higher other expense of $0.03, again due to the reserve that I’ve talked about several time, and then higher tax for the quarter or $0.03. So, as you can see, netting these items, we had quality earnings in the quarter.
Clearly better performance. For the full year, operating income contributed $0.90; again, fewer outstanding shares contributed $0.18; and then offset to these positive contributions were higher corporate expenses of $0.06 due to professional fees; higher other expense of $0.11, and again mainly due to the contingency reserve; and then higher interest expense of $0.06 due to higher debt in connection with acquisitions and share repurchase.
So, again, solid quality earnings for the full year. Moving to Slide number 8, addressing sales, looking at the top line, you can see sales for the quarter increased 16% to $3.3 billion from $2.9 billion last year.
Of this 16% sales growth, 4% is the result of acquisitions, 6% is the result of currency, mainly the euro strengthening against the dollar, and then 6% organic growth, very good organic growth. Moving to Slide number 9, the strong growth in the quarter, again, the result of continued end market strength in Industrial International with growth of 28% with contributions from all three major regions – Asia, Latin America, and Europe.
Continuing performance from the distribution network, and a 15% increase in Aerospace revenues. And this is up against tough comparisons from last year.
Acquisitions contributed 4% to sales for the quarter and that equates to $126 million and for the year acquisitions contributed $373 million. As mentioned before, we continue to make progress in emerging markets around the globe.
Moving to Slide number 10, and now the focus on segments starting with North America. Most notable this quarter in North America is you can see that in spite of a tough and challenging market fourth quarter sales are up 11%.
And of this 11% growth acquisitions contributed 7%, currency contributed 1%, and the remaining 3% is from organic growth. So, in spite of a challenging North American economic environment, operating income for the segment is only slightly below last year.
This is the result of diversifying the business, continuing to make acquisitions, and of course execution on our Win Strategy initiative. Just to give you a little flavor for the markets, markets that continue to be up sequential and year-over-year are power gen, telecom, oil and gas, and off highway construction, and marine.
Moving to Slide number 11, continuing with the Industrial segment and moving to International, you can see here that currency contributed to sales 13% for the quarter, but this is down from 15% last year, again, mainly due to the euro. Acquisitions added 4%, organic growth continues at a high level, 11% for the quarter, and again against tough comparisons last year.
However, most notable in International this quarter, you can see that margins as a percent of sales is 15.4%, and this is versus 13.2% a year ago, so very good margins in International. They continue to perform well and across the various markets that Parker serves.
The volume improvement is broad based and again across all the major regions that I mentioned earlier. Germany, U.K., and the Scandinavian countries all continue to do well.
France and Italy are a little mixed, down slightly sequentially, but up over the same quarter last year. So, now I will move to the Aerospace segment.
Most notable in Aerospace this quarter is that sales are up 15% and of this 15%, 4% is acquisitions, 1% is currency, and 10% is core growth. Margins for this quarter as percent of sales is down to 14.3% from 15.1% last year, and as we discussed in the last earnings call, and as Don mentioned earlier, this is due to increased research and development cost in connection with all the program wins, the new program wins, and then secondly it’s due to a higher mix of OEM versus MRO business.
We have been awarded $8 million in new programs. Just to name a few of them – the 787, A350, the Gulfstream G650, the MRJ, the Bombardier CSeries, and that’s just to name a few.
While margins as a percent of sales are down, segment operating income for the quarter has actually increased 8%. So, just as last quarter high research and development cost will continue moving forward but this is a result of the large dollar amount of wins.
This will go on for a time period, but it’s a good thing for the Company moving forward. I am sure that most of you probably saw the most recent Aerospace announcement on Bombardier CSeries.
Speaks to the Fly-By-Wire technology and it culminates in $3.5 billion in revenue over the life of the program. Before moving to CIC those of you who don’t know, another win for Parker is that the FAA has mandated that airplanes will need to be refitted (inaudible).
This is the technology that replaces the oxygen in the central fuel tank with nitrogen to avoid possible explosions as a result of flammable vapors. Parker is a leader in this technology featuring the most efficient product in the market.
Moving to Slide 13, Climate & and Industrial Controls, softness in the markets that we have been talking about for the last three quarters, auto, heavy duty truck, and residential housing, that’s what’s affecting this particular segment. Sales are down 4% organically for the quarter and 5% for the year.
The operating margin for the quarter of 7% compares to 8.7% last year, again, reflecting the softness in those markets that you have heard us talk about on several calls. At this time, moving to Slide 14, I want to talk about orders just for a moment, orders for the quarter.
These numbers represent a trailing three months average and are reported as a percentage increase of absolute dollars year-over-year and remember that these orders exclude acquisitions and currency. And also please remember that Aerospace is reported using a 12-month rolling average.
And as you can see from this slide, order is up 8% for the June quarter. This compares to 9% last quarter and 3% a year ago.
The sequential decline versus last quarter is due to tougher comparisons moving from March to June last year. So, orders continue to be positive across all regions with the exception of CIC.
North American orders are up 4% for the June quarter compared to 2% last quarter and a negative 3% the same quarter a year ago. The increase that you are seeing is due mainly to easier comparisons versus a year ago.
Markets that remained positive sequentially and year-over-year are distribution, power gen, telecom, oil and gas, off highway construction, and marine. Industrial International orders continue to show strength at 8% this quarter and that’s on top of 14% last year.
This 8% compares to 11% last quarter and is the result of a tougher comparison from March to June of last year. So, looking at the absolute dollar value of orders, orders continue to remain strong through and including June.
International’s strength is supported by double-digit orders in Asia and Europe. My questions have centered around Southern and Western Europe.
Parker orders aren’t reflecting weakness. In fact, orders remained strong throughout Europe.
In Europe, almost all markets remained positive year-over-year. Aerospace continued to build backlog with orders up 23% this quarter and this compares to 28% last quarter, up against tougher comparison and 8% a year ago.
Aerospace commercial aftermarket orders, which are a concern to all of you moving forward remained strong in June. Please remember that orders are higher than shipments due to the long lead time of the OEM orders.
Currently 66% of the Aerospace business is OEM related and is anticipated that this will increase in fiscal year 2009. In the Climate and Industrial Controls segment, orders are down 7% for the quarter, down from negative 1% last quarter, and negative 6% a year ago.
As mentioned previously, this segment is being impacted by the soft markets that we have been talking about for some quarters. Moving to the balance sheet, the balance sheet remains solid.
The cash on the balance sheet at quarter-end was $326 million. We had no commercial paper outstanding at the end of the quarter.
Days sales and inventory declined to 61 for the quarter, down three days from the third quarter. Accounts receivable in terms of DSO is flat with the third quarter at 50 days.
And just remember that the larger decrease that you are seeing in other assets and pensions and other post retirements benefits year-over-year is the result of FAS 158. So, now let’s move to Slide 16 addressing operating cash flow for the quarter, $453 million in the quarter, 13.5% of sales.
One of the highest quarters that we have seen. In fact, probably the highest quarter that we have seen, surpassing obviously the Company’s goal of 10%.
For the year, cash flow, as Don mentioned, was $1.3 billion, another record for the Company at 10.8% of sales. Of the $1.3 billion in cash flow for the year, $1.2 billion was utilized to advance the growth of the Company, $280 million capital expenditures, representing 2.3% of sales, and $921 million in acquisitions.
Of that $1.3 billion in cash flows, $726 million was returned to the shareholder through share repurchases of 584 million, and payment of dividends of $142 million. As a result of this, debt increased by $786 million and cash on hand increased from $153 million to $326 million.
So, on Slide 17 you can see, however, in spite of this, our debt to total cap ratio is only 28.3%, and on a net basis 24.9%, providing the capacity to continue to generate premium returns to our shareholders. This combined with an acquisition pipeline that is full will enable Parker to continue to meet their long-term growth goal.
So, at this time, we will move to guidance, which I know that you are all waiting for. And the guidance for fiscal year 2009 is shown on Slides 18 through 20.
While I am not going to read these numbers in detail to you, on Slide 18 you can see that the guidance has been provided for sales and operating margin by segment. On Slide 19 guidance has been provided for the items below segment operating income.
And then Slide 20 summarizes the guidance on a diluted earnings per share basis. The guidance for fiscal year 2009 is projected at a range of $5.65 to $6.05.
This assumes a 46%-54% split first half and second half, respectively. Please remember that the guidance includes acquisitions made to-date, but it excludes any acquisitions that may be made in fiscal year 2009.
The fiscal year 2009 guidance assumes increased sales; increased operating income; lower expense for items below operating income, consisting of corporate administration, interest, and other; a tax rate of 30%, which is higher than last year due to research and development credits that have been included in fiscal year 2008, but haven’t been approved by congress for fiscal year 2009. All of these results in higher diluted earnings per share and an ROS for fiscal year 2009.
Okay, at this time, let’s open it up to our standard Q&A session.
Operator
(Operator instructions) The first question comes from the line of Nigel Coe from Deutsche Bank. You may proceed.
Nigel Coe – Deutsche Bank
Thanks. Good morning.
Pamela Huggins
Good morning, Nigel, how are you?
Nigel Coe – Deutsche Bank
I am very well, thanks. This may shock you, but a question on guidance.
So just – you basically said acquisitions during the – so all of them have been announced and I am talking here about Vansco, High-Tech, Legris, all that would be within the guidance?
Pamela Huggins
No, Nigel, actually Legris is not included in the guidance.
Nigel Coe – Deutsche Bank
Okay. That sounds good, okay.
Pamela Huggins
We only include if the acquisition has actually been closed.
Nigel Coe – Deutsche Bank
Okay. And then on currency, I think you get this every quarter this question, but do you take the current quarter and – currency rates or are you using basically last year’s rates within – so basically do these numbers reflect the benefit you will get in the second half of the year from currencies at the current spot rates?
Tim Pistell
Nigel, Tim Pistell. The way we do this is we set what we call the Parker rates, so people can prepare their forecast.
We set those as of the first of March. Then again if the rates don’t move from then until now, we are fine.
Of course, sometimes they do move, they have moved a little bit between then and now. So there will be a slight difference that will be built into that but we do not predict or try to predict where they are going to go from here.
Nigel Coe – Deutsche Bank
So, these are using plan rates as at March?
Tim Pistell
Yes. These are based on Parker rates as of the first of March and as I say they are – there has been a slight variance from that.
Nigel Coe – Deutsche Bank
Okay. And then just a quick one on Aerospace.
Can you just take that out a little bit more just what is your assumption between OE aftermarkets and could you just comment on the margin assumption? I mean I think your trough margin in 2004 was 13% and you sort of bracketed in that level.
Can you just talk about maybe some of the structural differences between then and 2009 within that business?
Tim Pistell
Well, the – this is – I’ll just carry on. Tim again.
Actually the trough margin last time were 12 but a very different dynamics then of course what we are experiencing now. Again, what’s happened in Aerospace has been truly dramatic.
The efforts they have made to land on these big programs starting with the Dreamliner and going forward on regional jets now on the 350 so that you can see that the again the trough margins the last time were based upon the downturn that occurred after 2000 and 9/11. This – the top line is strong, you can see that.
There has been a big shift from however from the OE portion versus the aftermarket. As we have won this new business the OE –traditionally we would see OE and aftermarket being almost a 50:50 split.
We are now at a point where OE is up to two-thirds of what they are doing. So, that’s quite a shift in mix.
And the other things that’s happened, Nigel, is, as I say, is the amount of R&D and non-recurring engineering that we have spent to win this business. Now, going – just to give you that again, the increase we took on in fiscal year ’07 was an increase of $20 million in R&D over ’06.
We then in ’08 this year just concluded, added another $24 million over what we had added in ’07. Built into this plan for ’09 is another increment of $28 million over what we added in ’08.
So, you can see a huge ramp up, but this has enabled us to land that over $10 billion and again $10.5 billion of new business have been landed on these major program, which are going to serve us well for the next 20 or 30 years to come. But that’s the dynamics there.
Nigel Coe – Deutsche Bank
Thanks.
Pamela Huggins
Thanks Nigel.
Operator
And the next question comes from the line of Alex Blanton from Ingalls & Snyder. You may proceed.
Pamela Huggins
Good morning, Alex.
Alex Blanton – Ingalls & Snyder
Good morning. That’s Ingalls & Snyder.
Pam, just a suggestion. You had some very interesting per share break downs of your fourth quarter and full year – different factors affecting earnings, but it wasn’t in the slide – it wasn’t in the slide, and I can't write that fast.
So maybe next time you can put it in the slide.
Pamela Huggins
Okay, Alex. Yeah, we can talk offline about that too.
Alex Blanton – Ingalls & Snyder
Now the – I wanted to ask you, what will happen to – what would be the effect on earnings if the currency goes the other way? Obviously you had quite a bit of currency gain in your sales figures, and supposed that you see a reversal of that, and the dollar gets strong against these currencies, ’09, what’s the effect on earnings of that happening?
Pamela Huggins
Well, Alex, you know, obviously you are seeing the impact on the top line as a result of the currency. But you have to remember that we are pretty much organized around the globe to be able to serve our customers on a local basis.
Alex Blanton – Ingalls & Snyder
Right.
Pamela Huggins
So, we tend to source locally, we produce locally, and we sell locally. So the impact that – we don’t have much of an impact on the bottom line.
Alex Blanton – Ingalls & Snyder
Okay.
Pamela Huggins
It tends to pretty much (inaudible) margin line.
Alex Blanton – Ingalls & Snyder
Okay.
Pamela Huggins
But you will see the impact on the sales line that you are seeing. I mean obviously if it’s positive you see in the positive results on the sales line, and if it’s reverse it that will move.
But we really think that on the income statement line, we are pretty well protected.
Alex Blanton – Ingalls & Snyder
I was talking the effect of margin part.
Tim Pistell
It will – Alex, this is Tim – it will not affect the margins to any great degree, but again we don’t want to mislead you. There will be an effect, it’s clearly the sales doesn’t drop all the way through to the bottom.
But when you get to all the cost of sales and the SG&A and the interest and the taxes and everything else that it will be – right now it is in that plus. It’s hard for us to quantify, but that was just sort of the single digit of the top line plus right now.
So if it reverses there will be a hit at the bottom line albeit a much reduced hit.
Alex Blanton – Ingalls & Snyder
Okay. Okay.
Now, second question is your orders seem relatively strong compared with the economy, up 4% in U.S. I don’t think we are seeing that kind of strength in most markets.
And also in Europe where there was a drop off for many companies in June in key markets like construction. You are saying you haven’t seen any of that.
Do you have an explanation for that? Is it market share and gain?
Is it just your product mix or what?
Don Washkewicz
Well, Alex, this is Don. I think as you reflect back to previous quarters, about a year and a half ago people were saying that Europe is going to slow down and stop and all these kind of things.
And we said we haven’t seen that yet. We are into a lot of segments in Europe that are still doing well and whether it be energy related segments or forestry or whatever.
Heavy duty truck over there is still doing well. So a lot of what’s happening in Europe is still doing pretty well and it continues.
So I think our response is the same as it was a year, year and a half ago when the questions first started coming up. We just have – I am not sure where everyone else is – what markets they are participating and we happen to be in good markets and our products are in demand.
So I think we are enjoying the benefits of that over in Europe and elsewhere.
Alex Blanton – Ingalls & Snyder
Well with construction is particularly weak but I guess that’s not a huge part.
Pamela Huggins
Well, actually, we do have – this is Pam speaking, Alex. We do have significant mobile business in Europe but we have a significant industrial business as well.
Alex Blanton – Ingalls & Snyder
Yes.
Pamela Huggins
But those continuing to do well through the current period.
Alex Blanton – Ingalls & Snyder
Okay. Thank you.
Operator
And the next question comes from the line of Jamie Cook from Credit Suisse. You may proceed.
Pamela Huggins
Hi Jamie.
Jamie Cook – Credit Suisse
Hi, good morning. I just have a question on your margin assumptions in North America for 2009.
If we look at your margins in the back half of your fiscal year 2008 we saw a 40 basis point decline in the third quarter, a 160 basis decline in the fourth quarter and then when I look at your margin assumptions for ’09 you are basically assuming that margins are flat. So I am just trying to get comfortable with what your assumptions are because why wouldn’t I just assume that what we – we are not assuming North America really get any better, why wouldn’t we just sort of take the back half and extrapolate that into 2009 in terms of the margin degradation.
Tim Pistell
Right, Jamie, this is Tim. The –you have to sort of keep in mind where are the businesses are today here in North America.
If we go back a year, 15 months ago, it was still fairly robust economy and things generally were expanding. There were a couple of issues here and there but all in all I think things were still pretty good.
Things have gotten worse we all know that. And some trouble continue and a lot of uncertainty.
So what’s transpiring over the course of the last couple of quarters here that you have seen is realignment contraction if you will within our businesses. Part of the lean enterprise obligates us to stay on top of this and we have been pulling back leaning out the operations which mean reducing some headcounts here and there.
Unfortunately also means reducing inventories and so I think you are going to a period of – where people are making adjustments to where a year ago they were – they didn’t have to do those things and things were going pretty strongly.
Jamie Cook – Credit Suisse
Okay. And then just to follow up to that, in terms of your orders, they tend to – or your visibility, when we think about your orders, it tends to be short term, or just a couple of months.
But you guys, do you have conversations with your customers and you can sort of see how they are thinking about the business sort of longer term. Can you just I mean from looking – talk – speaking to your customers and thinking about their longer term ordering patterns, are you seeing any significant changes there and if so in what markets?
Don Washkewicz
Yeah, Jamie, this is Don. I would say the answer to that is no major changes.
You are right. We only have orders in some parts of our business for a month or six weeks.
Aerospace obviously being longer, but those discussions basically have been ongoing but typically we would say throughout the balance of the calendar year, which is another six months or so, things are still looking pretty good. I mean overall, no new markets going real negative on us, nothing actually turning around drastically either.
So pretty much steady as you go. It’s beyond that six month period that – you know there is a lot more uncertainty because of the elections, because of the Olympics, because of all kind of things.
And frankly our customers really aren’t going out talking much beyond that six month period. But I would say between now and the end of the year, I would expect no other major changes at leas there is nothing that we can see right now, beyond what we have already reported.
Jamie Cook – Credit Suisse
Alright. Thanks.
I will get back in queue.
Pamela Huggins
Thanks, Jamie.
Operator
And the next question comes from the line of Jeff Hammond from KeyBanc. You may proceed.
Jeff Hammond – KeyBanc Capital Markets
Hi, good morning.
Pamela Huggins
Good morning, Jeff.
Jeff Hammond – KeyBanc Capital Markets
I was wondering if you could give us within the guidance the organic – what this assumes from an organic growth rate for each of the business.
Pamela Huggins
When you say each of the business—
Jeff Hammond – KeyBanc Capital Markets
The four segments in terms of the – you may be at the mid – how much foreign currency and organic growth contributes to these growth rates? Or what the growth rates are organically?
Pamela Huggins
Yeah, okay. And you want it for the year?
Jeff Hammond – KeyBanc Capital Markets
Yes. For fiscal ’09.
Pamela Huggins
Okay. North America is basically flat.
International is 3%. Aerospace is 3%, and then Climate and Industrial Controls down 2%.
Jeff Hammond – KeyBanc Capital Markets
Okay. That’s helpful.
And then I guess within the Aerospace I mean you talk about all these wins and certainly the R&D ramp, but help me I guess reconcile all these wins with only 3% base business growth into fiscal ’09.
Pamela Huggins
Well, Jeff – the OEM side of the business obviously is long, long lead time business, and if you look at what’s happening in the aftermarket on Aerospace right now, I mean if you look at the commercial orders that just came in most recently, they are still pretty good orders. They are not as high as the January through April timeframe, but they are still very strong numbers.
But you know you have to – and then you look at military. Military is relatively stable.
Okay? Whether you are talking – especially on the OEM side.
When you get to the aftermarket side, it’s relatively stable. There were a couple of months that were extremely out-liers but it’s relatively stable.
But you look at what’s going to happen going forward and there is the concern about all the planes that are being parked. There is concern – you know and the aftermarket side of the business is obviously the profitable side of the business for us.
So in the second half there is a fall off in the aftermarket. Last year I think we had like 9% growth in the aftermarket.
This year we are forecasting only 2%. Now you have to realize that 67% of the business next year is going to be OEM related.
Jeff Hammond – KeyBanc Capital Markets
Okay. Thanks a lot.
Operator
And the next question comes from the line of Joel Tiss from Buckingham. You may proceed.
Joel Tiss – Buckingham Research
Hey, good morning, how is it going?
Pamela Huggins
Good morning, Joel.
Joel Tiss – Buckingham Research
Maybe if I try to glue a lot of the questions together, we can get it out of the way. If you could try for the guidance for ’09 to build up the organic North America and Europe, I think you just finished doing that.
How much comes in from acquisitions, I know the ones that are already made. How much earnings growth from share repurchases?
I don’t know how you are thinking about that and if you could give us an idea on what kind of pricing you are baking in there as well. I think that would just answer a lot of questions at once.
Tim Pistell
Joel, this it Tim. Let me try – that’s a lot.
Let me try to give you what you asked for there. In terms of growth from acquisitions North America, we are looking at about – would add about five.
These are ones already consummated. We carry over.
Internationally, maybe a little less than two. And in Aerospace there is still little less than one that will come over.
Okay? I am sorry and—
Pamela Huggins
In terms of share repurchase, we have not baked anything—
Tim Pistell
Yeah. The only thing that’s baked in on the share repurchases are we have a minimum program that we always sustain, but that is probably in a range of $80 million to $100 million worth fairly nominal.
We have not at this stage planned a major share repurchase. That’s certainly something that we told you is on the agenda at every Board meeting, something we look at and discuss with them.
There is not one built into this plan.
Joel Tiss – Buckingham Research
And then pricing?
Tim Pistell
And pricing, very interesting environment there. As you know we – part of our Win Strategy is strategic pricing to be linked with the strategic procurement.
We think we have done a very good job through this last fiscal year and the evidence is that to me is the fact that the gross profit margin improved in ’08 over ’07. So I think over the course of the year we managed to, by either managing the procurement side or the pricing side, stay equal to or actually improve on the margins.
Now, right now we are in a extremely difficult times because people are – as you know we do a lot of our price increases first of July, first of January. People had anticipated and built those price increased in.
They went with those price increases on the first of July with certain assumptions on cost increases and lo and behold it turned that the cost increases are even greater than we had anticipated. So that means you are behind the power curve and you have to scramble and how are you going to make up for that and that’s – we are in that lower grade now.
I mean it’s nothing that we are not used to but it – that’s the environment we are in. Right now, in terms of the forecast, the plan, we usually build this so that we anticipate that our price increases will stay pace with our cost increases.
Alright. We are not – that’s the objective here is at least stay even.
We have tried to do that. Right now as I say we are actually in a bit of a dilemma because we didn’t estimate cost increases quite enough to cover what we have seen.
Joel Tiss – Buckingham Research
That’s mid-single digits, if I try to read between the lines?
Tim Pistell
Well, would be, but we have – we are working on it, so I think that the – I mean we would have gone in and told you that our price increases are probably going to be in the 1% to 2% range to match with the cost increases.
Joel Tiss – Buckingham Research
Okay. And one last question.
Can you just talk a little bit about CIC. It seems like a lot of those market you are in are down like double digits, whatever, 20%,30% yet your business just sort of fell off very modestly.
Can you give us anything behind the scenes that’s going on there that would cause that? Thank you.
Don Washkewicz
I think – and I will let Pam – this is Don – I think that of late what you are seeing is some of the impact, additional impact on the automotive side of the business. You’ve heard that they’ve had extended shutdowns.
I think if you look at all the segments that they have been affected by, the heavy truck, the housing starts, those have been pretty stable at pretty low levels, but the automotive continuous to get worse, and I think that’s what you are seeing primarily being reflected in the numbers in CIC.
Joel Tiss – Buckingham Research
Okay. Thank you.
Pamela Huggins
That’s correct. That’s right.
Operator
And the next question comes from the line of David Raso from Citigroup. You may proceed.
Pamela Huggins
Good morning, David.
David Raso – Citigroup
Good morning. Some of my questions have been answered but quick question on the core growth in the quarter actually accelerated for most of your business, and some of the North American distributors we speak with it’s clear some were buying ahead of the July 1 price increase.
I know not every division put the July 1 through but enough do and distributors were getting ahead of it. Can you speak to that because obviously if you look at your forecast and your breakout volume and price in your core, it does seem like you have some volume declines in North America as well as International looks like your core volumes are implying basically flat.
So you are talking one thing about Europe and not really saying is we know Latin America at the moment is still healthy. I am just trying to put the pieces together on was there that much pre-buying in the quarter and that’s why you have some weak volumes baked in?
Because again your volume numbers are pretty soft in the next at least in the full-year guidance, at a minimum.
Don Washkewicz
David, this is Don. I would say, no.
I would say that there isn’t any more pre-buying than what we would normally see in a period. And actually when you see a higher level of pre-buying is when you would anticipate a big ramp up in activity out there.
So if they were looking for it saying that the economy was going to really take off I think you would see them get very bullish on a pre-buy. I don’t think that they are seeing that today.
I think they are playing it cautious. They are conserving as much cash as they have for operations and just even though they are doing okay, I mean the distributor business is doing okay, overall, I think they are still being cautious as far as getting too far ahead of themselves as far pre-buying.
I am sure a little bit of that is going as it always has but I would not say that it’s any greater than it has in the past.
David Raso – Citigroup
Then can we connect (inaudible) if you don’t think there was much pre-buy your volume outlook internationally exclude the pricing, exclude the currency and acquisitions and I can surmise why but I just want to hear you describe your comments from – we are seeing in Europe, Latin America is still healthy, Asia Pacific is still healthy, which I agree with at the moment. I am trying to understand why we are seeing volume guidance essentially flat one-ish, you know 2% at most for the International business.
Don Washkewicz
The – well, I think that, David, it goes back to – and again, where the order rates were this quarter. But we are looking – obviously this is a forecast – we are looking out.
We are going through all the indicators and there are three things that are really – we are concerned with. Okay?
First of all, financial markets still very unsettled and I don’t know – I think we all hope they would be – this would be past behind us. By now it’s not behind us.
So financial markets around the world still remain very unsettled. Number two, we have the elections coming up here in the fall, which could have some very big influences on – and business, and number three, of course, is the Chinese and the Olympics and after they get through the Olympics what’s going to happen there.
So, all three of those things are out there. A lot of uncertainty, a lot of – these are uncertain times.
Now, coupled with that, reviewing all the macro economic forecasts, and everyone I am seeing these days in terms of North America or Europe are showing slowing. I have seen some of late which show North America in single digits, I mean below 1% GDP growth.
They are showing Europe coming down significantly down to 1.5% range and even China coming off from the 10s down to maybe the sixes or the sevens, which should be a big fall. So, again, I think there are – that’s part of what’s in this plan.
I say the plan here clearly is cautious. You know we are trying to be realistic but we are also trying to be cautious and so that’s what a lot of this plan is being based on.
David Raso – Citigroup
The last one. I know you no longer give quarterly guidance.
But when it comes to the International volumes for the first fiscal quarter of ’09, you are saying your order book, what you are saying, we are not expecting that full year core volume run rate that I am speaking of that you are implying kind of one-ish percent or so. You are still expecting a healthy start to your fiscal year but you are baking in the weakness looking further out.
Pamela Huggins
That’s exactly right.
Don Washkewicz
That’s exactly right.
Pamela Huggins
That’s exactly right. But there are some risk to that and one thing is with the Olympics in China you have to remember I mean the construction people they won't even be doing anything during that time period.
So there are some risks out there that you have to consider because people are going to shut down during the Olympics, and there are not going to be any shipments that are going to take place.
David Raso – Citigroup
Okay. I appreciate it.
Thank you.
Don Washkewicz
Sure.
Operator
And the next question comes from the line Terry Darling from Goldman Sachs. You may proceed.
Terry Darling – Goldman Sachs
Thanks. Don, wondering if you could share with us your thoughts on pace of acquisitions and buyback ’09 versus ’08.
I see you’ve articulated cautiousness on the macro uncertainty on the other side of the coin, your debt to cap is still below the full cycle target, your cash flow generation of the forecast is still very healthy, and presumably you might see some better acquisition prices here. So could you just talk about pace overall of free cash deployment in those periods and then thoughts on the mix.
Don Washkewicz
This is Don speaking. The – we’ve done pretty much what we have planned to do this past year in ’08 you know we have made 10 or 11 acquisitions about $500 million some in volume.
I would say we plan here this year to do a similar level of acquisitions. There are some in the works.
One was mentioned earlier in the call that hasn’t been announced yet. That would be part of that mix.
We are on target to do the 5% sales growth in acquisitions this year. So, as far as the – I think the other part of the question had to do with last year’s share repurchase versus what we might do this year.
I think of course we don’t broadcast that in advance. We are looking at those options depending on what it looks like as far as opportunities in the acquisition environment.
I think the acquisition environment right now is looking better than it has in the past. We’ve obviously been blessed with a good cash flow, so we can participate in that and still maintain our leverage numbers the way we like to maintain those.
So I think you will see us active this coming year. I think that we should certainly achieve the 5% on the top line and the next priority of course is dividend.
We want to continue that stream that we have established 52 years ago. So we want to continue that.
The internal growth in innovation and funding internal innovation and what you heard on the side of the Aerospace group we are going to continue active there as well. There are some major projects going on in the Industrial side of our business.
And then I will say beyond that, and Tim mentioned the share buyback with respect to offsetting stock option exercises. We do that as a routine.
Anything beyond that would really then be looking at things like more of the same or a larger share of buyback. There has been no decision made on a lager share repurchase right now.
But certainly that discussion happens at every Board meeting. And we’ll keep you tuned in as to what the decisions are as we go forward.
But getting back to acquisitions, I think we feel pretty good about bringing in that 5% of top line growth in acquisitions this coming year.
Terry Darling – Goldman Sachs
Again, just to clarify. It doesn’t sound to me like you are articulating a view that the weaker outlook in the macro on a shorter-term basis is sort of changing your view that you need to continue to invest in those areas for the long term doesn’t make –
Don Washkewicz
Are you saying that it hasn’t changed my view?
Terry Darling – Goldman Sachs
It has not changed –
Don Washkewicz
That’s correct. We are going to be opportunistic to build on our framework and it has, but these acquisitions have to be synergistic with what we have here already.
We are just not going to buy to add volume. They have to be synergistic, but we will take advantage of what’s out there and what we can bring in to build on this – and what we’ve set up here already.
Terry Darling – Goldman Sachs
–
Don Washkewicz
I don’t think that we see much risk. I was just at the Farnborough Air Show.
I’ll tell you what – everyone was very – this is a major Air Show over in England and the next year it will be in France. But everyone was very bullish on everything going.
Again, you keep in mind that it takes many, many years to develop a new air frame. It’s not a decision that you decide at this year and then you cancel it next year.
But the programs that have been announced that are going forward are going to go forward. The one risk that you do have in these programs as we’ve seen in Aerospace is that you may get a one or two-year delay I think on the major new programs with – that have involved significant new technologies, that’s a high probability that you’ll get some sort of a delay because of the complexity of what they are trying to accomplish, and that holds true for the 787 and the new A380, I think they both – we saw delays there.
But as far as these programs are getting cancelled, I think the probability is almost zero. There is a lot of demand out there.
This demand by the way doesn’t just come from North America. Most of the demand in the backlog today for new plans is not to server North American markets, interesting enough.
Most of this demand is from rest of the world. And we understand how the North American airlines are suffering, but that’s not the same situation elsewhere around the world.
So, I’m very optimistic and I think the industry is very optimistic that these programs are real, there are going to continue on. The question will be a little bit on the timing.
But the order of magnitude is very significant. For Parker, the billing – the size of our bill of material is much more significant now that it’s ever been in the past.
So, we are really benefiting in a very big way. I hope that it is not underestimated out there, just how significant – what we are here is for the company, it’s very significant.
And I think you are going to see long term here. These are going to be very wise investments that we’ve made.
So, it’s got a future growth in the business in the company. So, we are bullish.
I think the market is bullish. The conference was bullish.
I think this is one of the real bright spots in our total portfolio that we can feel pretty confident, and it is going to continue on for many, many years.
Terry Darling – Goldman Sachs
And the ’09 aftermarket revenues, we assume those are flat or down next year or –?
Pamela Huggins
No, at 2%.
Tim Pistell
Up 2%. Yes.
Acquisitions, up 1%; OEM up about 3.5%.
Terry Darling – Goldman Sachs
Thanks very much.
Tim Pistell
Yes.
Operator
And our next question comes from the line of Ann Duignan from JPMorgan. You may proceed.
Pamela Huggins
Good morning, Ann.
Ann Duignan – JP Morgan
Hi guys. It’s Ann Duignan here.
Can you talk a little bit about, first your acquisitions done? You guys are paying about 1.7 times sales for your acquisitions which is significant higher than, say – and ITW is paying less one times sales.
Can you just talk a little bit about why at least it looks like you are paying up for acquisitions versus others out there? Is there more competition; was it one deal that cost more?
Just little bit about the pricing on acquisitions.
Don Washkewicz
Well, I won’t confirm you 1.7 because I don’t know if that’s the right number. But I will say that what we do typically, and Tim will make a few comments here.
But what we do typically is we use a discounted cash flow I mentioned that in the past, when we say pay up, we are paying based on the models that we’ve used in the past with the cautions that we put in the models in the forecast. So, I wouldn’t say that the markets are a little bit more pricy right now, and you have to be competitive out there.
But – and we talked about this early that some of the multiples are slightly higher than they have been in the past. I think those will drop down a little bit in the future.
But the properties that we are acquiring to are higher performing properties. And I think you get higher performing properties than what we’ve brought on in the past, you are probably going a little bit more on average than what you have done in the past.
And I think you can see that with all the acquisitions made, we have been bring on higher performing properties because our margins have been going up throughout the entire period. People typically say, “Hey, acquisitions are failure, you shouldn’t have that strategy.”
Well, guess what, we wouldn’t have gone from 13.8% margins to 14.1% if it was a failed strategy. So, we think we are paying appropriately.
I think those multiples probably will subside a little bit as we go through this period. But keep in mind the properties are much better properties as well.
Tim Pistell
Hi, this is Tim.
Ann Duignan – JP Morgan
Hi Tim.
Tim Pistell
Don really just took my words right out of my mouth. I think the two things that we are strategically buying into certain markets we want to be into.
And some of more electronics, more life science, and these are businesses. Therefore, which are not as cyclical and they come with much higher margins.
And so, if you look at EBITDA multiples, they make a lot more sense, and if you look at the sales multiples.
Ann Duignan – JP Morgan
That’s helpful. Tim, could you just elaborate on that a little bit if you could give me a sense of what’s the average (inaudible) acquisitions?
But what’s the average EBITDA businesses, you are buying favorites is maybe five years ago.
Tim Pistell
Good question. Five years ago, I would tell you that we would operate – our normal operating range would be 6.5 times to 8.5 times EBITDA, and 8.5 would be a really, really nice attractive business.
And sometimes we do a little more; sometimes we do a little less. But that would be the relevant range.
As of a year ago, with everything going on that had shifted up a twofold points. We are now on an 8.5 to 10.5 range for essentially the same kind of businesses, which was a little hard for us on occasion.
But if you wanted the property and that’s now [ph] what you have to pay, can you still return something for the shareholders. I would tell you that those have come down again.
I wouldn’t say they have come down a full 2 points. They’ve probably come down at least 1 point.
I think they will eventually come down – come off the other point as well. When we are out there in these processes, we are not seeing the private equity.
We are seeing – we are not seeing the private equity guys. We are going against other strategic people and these things are drifting down.
It takes time. When we talk to sellers and of course, they still would like that multiple from last year.
That’s what they saw, that’s what they want from last year. And those aren’t the multiples for this year and they won’t be going forward.
So, I think if you are – again, you need to abide your time and I will tell you we have recently walked away from several things because we felt that the multiples people still wanted were not really reflective of the current environment.
Pamela Huggins
And (inaudible) but I just want to add a couple things to that. In the past too, we acquired some companies that were (inaudible) and we ended up happen to tear them apart and put them back together again.
And there is a cons to that may not be reflected in the purchase price, but there is a cost to that and we are not buying those types of companies today. The other thing is with our system solution process, obviously there can be a gap, there is something that you need to be able to round out that system.
And so you are going to make sure that you get it. So, those are the two things that’s low.
Ann Duignan – JP Morgan
Okay. And just a follow up on the pricing discussion.
Can you talk a little bit about pricing in distribution versus pricing to your OEMs? And what’s the impact of, Tim, you comment earlier about pricing July 1 covering cost in the near term?
What should we expect the impact on margins be at least in the near term?
Tim Pistell
This isn’t – it’s is an interesting period for us and it’s going to be an interesting quarter because some of these raw material prices have skyrocketed, and it’s going to be some tough battles with the customers. Now the distributors we have a little more power obviously, we could control the prices.
That’s a good news for Parker. At the major customers, these are tough, tough battles.
On the one hand they can clearly see the same thing that we can, oil or steel has gone or oil has gone. It’s another thing to try to get it through their system.
But I just – the battles are underway right that we need to get through. And what more I can give you beyond that.
That’s what we are living day to day right now.
Ann Duignan – JP Morgan
And on average do you expect to get any pricing from OEMs, or do you anticipate you’re going to have to try and make it all up in distribution?
Tim Pistell
We are trying to recover our cost. We don’t think it is fair for us to take a hit.
We are not looking for more, but we want to cover our cost.
Don Washkewicz
Yes, we think that we will be able to recover from both channels. This is Don, Ann.
One of the areas that has been ramping up, I don’t want to give you the impression that everything is going up at the same rate that it has in the past. In the past, you may recall that aluminum and brass and those types of metals and nickel based materials were going up at a very high rate and that was true.
Now that’s shifted more to just basic steel, bar stock. Now steel bar stock doesn’t make up a 100% of our business either, we have a lot of other materials that we use internally.
But I would say it’s the steel that’s been of major concern of late. And also anything that’s of course oil-based raw materials, which would be some of the polymers that we use would be hit more so than the other.
But there is a number of other materials that kind of flattened out now. So, it’s kind of a interesting mix.
The mix is changing a little bit in the dynamics. But as Tim said, we fully anticipate that we will recover these costs going forward, we have in the past.
If we hadn’t in the past, you wouldn't see the margin expansion that we have been showing you for the last three years, because this is nothing new to us, these costs have been going up for over the last three years and we've been able to manage it appropriately. It is just a little bit different right now because we got one increase and then, you know, four weeks later we got another increase, we haven’t even had a chance to, you know, recover the first increase.
So, it's happening a little faster. I think that'll subside as well to, you know, hopefully in the near term here.
Ann Duignan – JP Morgan
Okay, and just to clarify profit, so your outlook for earnings assumed right now is that pricing offsets import cost?
Don Washkewicz
That's right, Ann.
Pamela Huggins
Yes.
Ann Duignan – JP Morgan
Okay, okay, thank you.
Pamela Huggins
We have Eli now?
Operator
And the next question comes from Eli Lustgarten from Longbow Securities. You may proceed.
Eli Lustgarten – Longbow Research
Good morning, thank you.
Pamela Huggins
Good morning, Eli.
Eli Lustgarten – Longbow Research
Let me get a couple of questions. What are the actual shares outstanding at the end of the year?
You know, with the share buyback, I know what the average was; you put the average at $171.9.
Pamela Huggins
$167.5 I think.
Tim Pistell
Within a 1.4, but with the after shares.
Pamela Huggins
$167.5.
Eli Lustgarten – Longbow Research
$167.5 a share, and, how much are your businesses in China at this point 1.28 Part 19.
Don Washkewicz
Well, we have about 41% of the business in Rest of World and of that about 69% is Europe, 25% Asia, and 6% Latin America.
Eli Lustgarten – Longbow Research
That racks up, thank you very much. And we’ll talk about, Ann’s question talking a lot about costs.
Do you have an estimate of how far behind you are in costs, not the price within it but you know you need another 1% or 2%, well how much far behind are you because if you, from I think the beginning of March, fuel prices have doubled in the last three months.
Don Washkewicz
Right.
Eli Lustgarten – Longbow Research
You have some estimate of how much impact you‘d have there?
Don Washkewicz
We really cant because we’re kind of in between a couple of price increases so it all depends on how much we recover from what we’re out there as in the negotiations are ongoing. I think the main thing, Eli, is not to leave the meeting thinking that we’re going to be behind the issue.
We’re going to be caught up in the near-term here. Its jus the matter of, the pace that we’re going out with is a lot more rapid than what we’ve seen in the past.
Specifically on steel, not on all the materials. Again, I don’t want to paint the picture like all the materials are going vertical.
As you mentioned, its steel, and we’re just a little bit behind right now only because of the speed at which the price increases have been hitting us. But I fully anticipate that we’re going to catch that up within the next few months.
Eli Lustgarten – Longbow Research
Why is that different, Lee? In general conversations when you talk about guidance, I mean, you forecast a 5 to 5.5% increase in North-American sales, and which the implication, I mean, during that time of the year you said about 5% of that is acquisition, and when we are talking the price of it, we just want it be 3.16 Part 19 of that more, and you said it was guidance was flat, so I assume guidance included pricing and you’re actually uniballing forecast so North America is down a couple of percent?
Is that fair way of looking?
Don Washkewicz
Yeah, I think that that’s a fair way of looking at it.
Eli Lustgarten – Longbow Research
And, I guess one final question. Your currency is functioned if you had your figure prices on March 1.
Would that mean that you’re going to have to put the price currency gains using the first quarter and probably into the second quarter, I mean you already dint get the 160 into February, I think it is. So are we looking at currency numbers that are not really in your guidance in the first half of the year that disappeared from the second half, is that how we should look at it?
Don Washkewicz
We reset the rates, two updates as they stood on March 1. So it all depends on where they go from there.
They’ve already moved some from March 1 to now, which we’re giving to you, but then, you know, it’s a question of where they move from there, Eli.
Eli Lustgarten – Longbow Research
Well, I guess my question is, in the current year, in the previous 0.18 Part 20 she was comparing a 1.25 a 1.30 a year ago to a 1.55, 1.60 Euro today, and while the Euro was in the 1.55-1.60 range, you know, in March, most part of the year, but the Euro via comparison is still pretty favorable in currency in the next three months, probably the next six months before the anniversary of the movement. So you have any of that currency you’re going report it, mathematically, assuming the guidance that we’re getting, is that a fair way of saying it?
Don Washkewicz
Sure, when you go quarter-over-quarter, yes, tight. You would still have a few more quarters until it annualizes, if you will.
Eli Lustgarten – Longbow Research
Yeah, so the guidance in the International probably doesn’t have any currency built into it, because you’re using the current prices. Is that fair?
Don Washkewicz
No, it does have some built in.
Eli Lustgarten – Longbow Research
Okay, we’ll talk about it offline. Thank you.
Don Washkewicz
Yeah, we’ll talk about it offline, but it does have some built in.
Eli Lustgarten – Longbow Research
Okay, thank you.
Operator
And the next question from the line of Robert McCarthy from Robert W. Baird.
You may proceed.
Pamela Huggins
Sylvana, this will be the last question that we’ll take.
Robert McCarthy – Robert W. Baird
Good morning everybody, and thanks for taking my question. Actually, I have two.
First one I think if my, well?
Don Washkewicz
Hello?
Operator
Mr. Robert, (Operator instructions).
And the line is open, sir.
Robert McCarthy – Robert W. Baird
Can you hear me now?
Don Washkewicz
Yeah, you’re back, you’re back.
Robert McCarthy – Robert W. Baird
I was calling to say that it might help with our understanding of timing etc., if you could show us when was, when is your plan established? Meaning the guidance that you’re providing today is based on a plan that was signed off on when?
May 1, June 1?
Don Washkewicz
Interestingly, we start it around the middle of February, because we’re highly decentralized and that’s a bottoms-up approach. We actually, we’re done; management’s done and signed off.
Board still has not signed off on this plan, they won’t do that until the next board meeting in August actually. Now they have a preliminary that they have seen, but it’s a several months process that we undergo.
Robert McCarthy – Robert W. Baird
But you, as the management established these numbers as of what timeframe, Tim?
Tim Pistell
Well, we established it right now. I mean we did this.
We started in March; we presented a preliminary to the Board so that we could do this phone call.
Robert McCarthy – Robert W. Baird
So its not a in a sense a tired forecast that was you know, finished six weeks ago.
Tim Pistell
No, no, no; not at all.
Robert McCarthy – Robert W. Baird
Alright, and then my other question has to do with, I want to come back one more time to profitability and the industrial North America segment in the fourth quarter. You know, your margin’s down about a 160 basis points despite some organic growth and you named costs to adjust cost structure including head count and inventory reduction are producing below the selling level as two drags on profitability.
Was there a drag from raw material costs and if so, how does it compare in size to those other two items?
Pamela Huggins
Rob, this is Pam Huggins speaking. Yeah you can say in the fourth quarter that, you know it’s the softest in the markets that you’re seeing to some extent, okay they’ve just gotten worse a little bit.
Raw material prices, obviously you saw the pressure in the last couple of months. So yes, there’s a little bit of that in there that will be recovered moving forward.
Don Washkewicz
We’ve had extended plans shut down in some of the markets as well, which hit the quarter which is unusual from what we’ve seen in the past.
Robert McCarthy – Robert W. Baird
So the things that you’re doing proactively had a much more significant impact on the margin comparison than the question of price versus material cost did? That’s my inference.
Don Washkewicz
Yes, I’m not sure that I understand where you’re going with that question, if you could clarify that a little bit. I don’t want to answer it without being exactly sure.
Robert McCarthy – Robert W. Baird
Okay, well let’s put it this way; did your past pricing actions cover material cost increases in the quarter in industrial North America?
Don Washkewicz
In the fourth quarter?
Robert McCarthy – Robert W. Baird
In the fourth quarter.
Don Washkewicz
I think there’s a little bit, you know, there’s always a lag, there’s always a little bit of lag, you know, you’re never right even, you know.
Robert McCarthy – Robert W. Baird
No, that’s what I thought, because trying to, was there a portion. So then there was a small portion of the year-over-year margin decline in the quarter, compared with prior year?
That decline was from the material costs you know.
Don Washkewicz
And sometimes you’re behind it, and I would say in the fourth quarter we tended to be a little bit behind it.
Robert McCarthy – Robert W. Baird
And then my question is, is that little bit than is a smaller impact on the margin comparison than these other issues that you’re describing, the plant shutdowns and the lot.
Don Washkewicz
I would agree.
Robert McCarthy – Robert W. Baird
Okay, great.
Don Washkewicz
I would agree with that.
Don Washkewicz
Okay, thank you.
Pamela Huggins
Okay, Sylvana, if we can now complete our Q&A session, and I’m going to turn it over to Don who will – he just has a few closing comments.
Don Washkewicz
Okay, just closing up and just a reminder, you know, we finished a spectacular year for the Company, it was a record year across the board in just about every category and we expect fiscal ’09 to be as good a year as fiscal ’08 as far as setting additional or new records. Keep in mind that if you look at the year we jus finished, when we first went out with guidance on this year, if you looked at the middle of the range was about $4.95 or $4.96 somewhere last year about this time, and we finished up with $5.61, we’re pretty excited about that, you know, we had an opportunity to have several adjustments, If you will, or restatements of guidance, updates on the guidance throughout the year, we’re going to do the same thing this year.
There is nothing different. Our approach to this is the same as it has been in the past and we’ll have an opportunity to update our guidance every quarter going on out, as we see more, get more clarity on what is happening out there, we’re certainly going to keep you informed.
So just a couple of other comments, I want to thank everyone that’s on the call for your questions and your time this morning. The results that we are achieving as I mentioned earlier are due to the win strategy, we worked hard in the past seven years on the procurement side, the lean initiatives and the pricing, and those kind of initiatives.
The excitement now I think you’re going to see going forward is going to come from another pillar of the win strategy and that’s the growth side, the profitable growth side, which really is tied with innovation. You’ve heard a lot about that earlier this morning as it pertains to Aerospace.
There is a like amount of excitement that we have with respect to what’s happening from our innovation initiative that’s happening on the industrial side of the business. So, we’ve showcased some of this in the past to you, some of the folks that are on the call will continue to showcase that going forward, but I think this builds well for Parker going out well into the future.
We’ve maintained a strong organic growth rate of 5%, even when our markets have remained weak. This is in addition to the target rate of about 5% that we’re targeting for acquisitions; we covered that in the call and I think we’re more comfortable that we’ll be able to deliver 5% top-line growth just from acquisitions alone.
And lastly, you know, we just continue to reach new records, generating strong cash flows, again this was a record this year, over a billion dollars and increasing earnings per share in excess of sales growth. So on behalf of the leadership team, everyone certainly here and at corporate, I want to also thank Parker’s worldwide team, a lot of these people and employees are listening in this morning.
Certainly for their accomplishments and for continuing to profitably grow the company throughout this period of time. Once again, I want to thank the people on the call for your participation, we certainly appreciate your interest in Parker and if you have any additional calls, you know, Pam Huggins will be around to bounce for the day, and I just want to wish you a nice day.
Thank you.
Pamela Huggins
Okay, Sylvana, this ends our call and I would like to say thank you as well.
Operator
Thank you. Thank you, ladies and gentlemen.
This completes the presentation for today. You may now disconnect.