安捷倫 (A) 2012 Q3 法說會逐字稿

Good day, ladies and gentlemen. Welcome to the third quarter 2012 Agilent Technologies Incorporated earnings conference call. My name is Keris and I will be your coordinator for today. At this time, all participants are on a listen-only mode. Later we will conduct a question-and-answer session.

(Operator Instructions)

As a reminder, this call is being recorded for replay purposes. I would now like to hand the call over to your host for today, Ms Alicia Rodriguez, Vice President of Investor Relations. Please proceed.

Thank you. Welcome everyone to Agilent's third quarter conference call for fiscal year 2012. With me are Agilent's President and CEO, Bill Sullivan, as well as Senior Vice President and CFO, Didier Hirsch. Joining in the Q&A after Didier's comments will be Agilent's Chief Operating Officer, Ron Nersesian and the Presidents of our Electronic Measurement, Life Sciences and Chemical Analysis Groups, Guy Sene, Nick Roelofs and Mike McMullen. Also joining is Lars Holmkvist, President and CEO of Dako. You can find the press release and information to supplement today's discussion on our website at www.investor.agilent.com. While there, please click on the link for Financial Results, where you will find revenue break outs, historical financials for Agilent's operations and an investor presentation. We will also post a copy of the prepared remarks following this call.

For any non-GAAP financial measures, you will find the most directly comparable GAAP financial metrics and reconciliations on our website. We will make forward-looking statements about the financial performance of the Company, these statements are subject to risks and uncertainties and are only valid as of today. The Company assumes no obligation to update them. Please look at the Company's recent SEC filings for a more complete picture of our risks and other factors. Now, I'd like to turn the call over to Bill.

Thanks, Alicia. Hello, everyone. Agilent's Q3 orders were down 1% and Q3 revenues were up 2% over last year. Non-GAAP EPS was $0.79 per share and operating margin was 20.3%. Agilent's performance in the fiscal third quarter did not meet our revenue and EPS guidance. This was due to a softening of shippable orders, as well as a much higher than normal push-outs of delivery from our customers at the end of the quarter. While we are not seeing outright order cancellations, we're seeing all the classic signs of a slowdown. Deals are taking longer to close and customers delaying shipments. We felt the full effect of this phenomenon in July, the last month of Agilent's third fiscal quarter. The biggest headwind was in the Aerospace and Defense sector where revenue was down 11% year-over-year. While US government spending was stable, it was offset by decline in Defense contract business.

We would normally see an uptick at the end of the year, but we expect Q4 to be lower than normal due to fears of automatic spending cuts. The second headwind was in the Industrial segment, which declined 10% amid deteriorating economic conditions. We saw a more conservative demand from our customers in distribution channels across the Industrial market. A third headwind was in the Environmental markets, which declined 6% amid lower government spending. Finally, Academic and Government Research was down 6%, while we saw continued softening due to budget concerns. The declines in these sub markets were offset by positive results in other areas. Communications, revenues were up 7% over a year ago, reflecting strong wireless manufacturing test demand. Wireless manufacturing growth was driven by smartphone capacity expansion, primarily for devices but also for component manufactures.

Forensics markets revenues were up 17%. Strength was driven by increased demand for screening identification of abuse prescription pharmaceuticals and designer drugs. Pharmaceutical and Food Safety markets also experienced modest growth. Finally, we saw strong growth in Diagnostics, where our acquisition of Dako closed near the end of June. As part of Agilent, Dako's currency adjusted revenue was up 14% over the same period a year ago and business reported the strongest July in its history. The integration of Dako is proceeding well. Net result of this market give-and-take is that we ended up with 2% revenue growth for the third quarter. Even with Q3's disappointing revenue, our teams continue to leverage the power of Agilent's operating model. Agilent has a number of variable cost mechanisms that we are able to exercise doing economic cycles. In addition, we're continuing our ongoing process to reduce manufacturing costs throughout the enterprise. Agilent's global order fulfillment organization has several initiatives under way to consolidate manufacturing sites, streamline logistics and reduce manufacturing costs.

We've been able to react very quickly to the economic uncertainties and we will continue to act conservatively moving forward. Looking ahead, we believe we're entering a slow growth environment, as a result we have lowered our Q4 guidance. We remain well positioned to react quickly to business opportunities anywhere in the world. We continue to introduce innovative technologies and solutions, supplemented by bolt-on acquisitions. For example, earlier this month, we introduced an integrated one box tester and multi-port adapter. This reduces the number of tests for smartphones and tablets that contain multi-format and multi-band technologies.

We also finalized our acquisition of Test System division of AT4 Wireless. This acquisition expands our offerings in wireless R&D, particularly in LTE. We recently introduced the 1290 Infinity Quaternary LC system, the first ultra-high performance quaternary system that delivers the accuracy and precision of binary systems. Our other recent introduction -- product introductions including the Microwave Plasma, ICP, Triple Quad and GC/Q-TOF are exceeding expectations. Our SureFISH probes also continued to do well. We have dramatically increased the number of customers evaluating this new technology. In addition, we have released our first translocation FISH probe that addresses the cancer market. Thank you for being on the call. Now I'll turn it over to Didier.

Thank you, Bill. Hello, everyone. As always, my comments will refer to non-GAAP figures. Since last quarter's conference call, worldwide GDP growth has slowed significantly to 3.1% and the Purchasing Managers' new order index has dropped to a 39-month low of 47.2, indicating a significant contraction in the worldwide manufacturing sector. In this context, our orders and revenues were below our expectations. But we executed as per our operating model and delivered an operating margin of 20.3%, slightly higher than in the same quarter last year.

I'll now cover our Q3 orders. At $1.66 billion, orders declined 1% from one year ago. Adjusting for the impact of acquisitions and currency, orders were down 2%. By segment, the 2% core order decline is the following -- EMG minus 3%; CAG minus 4%; LSG plus 1%; and DGG plus 8%. The breakdown of the core order growth by region is -- Americas plus 8%; Europe minus 5%; Japan minus 10%; and the rest of Asia Pacific minus 6%.

Moving to Q3 revenues. At $1.72 billion, revenues increased 2% from one year ago. Dako contributed $40 million to this quarter's revenue. The core revenue growth, after adjusting for acquisitions and currency, was also 2%. By segment, the 2% core revenue growth is the following -- EMG flat; CAG plus 3%; LSG plus 5%; and DGG minus 2%. Core revenue growth by region was -- 9% in the Americas; flat in Europe; minus 7% in Japan; and minus 3% in the rest of Asia Pacific. Moving to the income statement and then cash flow. Cost control measures initiated last quarter, coupled with the automatic cuts from our significant variable cost structure and reduced variable pay related to the Dako acquisition, resulted in our achieving an operating margin of 20.3%. To put it in a different perspective, compared to the mid point of our guidance, excluding Dako, revenues were lower by $97 million, while operating profit was down only $26 million. In the tough macroeconomic environment, we've delivered strong financial performance and continued to demonstrate the power of our operating model.

Non-GAAP net income of $278 million or $0.79 per share compares to $276 million and $0.77 per share one year ago. Total cash generated from operations was $240 million, down $12 million compared to the same period last year, when we received $31 million from the unwinding of an interest rate swap. Now turning to the guidance for Q4. As always, our guidance assumes exchanges rates as of the last day of the reported quarter. We are projecting a Q4 revenue range of $1.76 billion to $1.78 billion. At the mid point of $1.77 billion, our guidance corresponds to a flat core growth for the quarter and for the full year to a core growth of close to 3%. Our Q4 EPS guidance is $0.80 to $0.82 and the mid point of the guidance full year EPS would reach $3.07, a 4% increase over last year. With that, I'll turn it over to Alicia for the Q&A.

Thank you, Didier. Keris, will you please give the instructions for the Q&A?

(Operator Instructions)

Tim Evans, Wells Fargo Securities.

Was wondering if you could maybe make some comments on the Pharma end market and I would be particularly curious about NMR demand there.

Nick, why don't you go ahead and answer that, please.

Sure. Pharma end market -- Pharma continues to be a decent market for us. We've seen mid single-digit growth, in terms of the orders in revenue in that marketplace. NMR in Pharma is a place that has been somewhat soft. Basically, they're relocating a lot of facilities. So they have yet to buy large capital equipment in the chemical molecule space and NMR tends to be more traditionally a chemical screening tool. So it's relatively flat and flatter than the overall market.

Great. Just to follow-up, are there any updates to the outlook for the Dako synergies in 2013, revenue synergies in particular?

So for our forecast for Q4, Dako's revenue is forecasted to be at $85 million. They're coming off a very strong Q3 and we have not given a forecast for FY '13 yet, but we will do that in Q4 earnings. But Lars, maybe you could share on some of your views of the quarter and how the integration is going.

Yes, certainly, Bill. Well, Bill, I think they're making progress. A couple of factors that I'd like to point out. Number one, the advanced staining market remains strong, funding remains in place, we see a robust volume and value growth across our regions. Secondly and more importantly, Dako is making good progress. So we see, sequentially, our business growing and coming up from a fairly low growth rate the prior year. This is not a straight line commitment to say that we're going to continue every quarter to deliver this growth rate. It will be some fluctuations as we move forward, but certainly Dako is making significant progress in our base business improvement program. Our investments into the Americas market as well as the Asia Pacific emerging territories is bearing fruit and we see a very significant uptake of our business. Newer technologies are also picking up and taking good traction right now.

Okay, so we can assume the synergy targets that were laid out when the deal was announced, are still essentially in place?

Well, I referred to Bill's comments. Basically, what Bill said for the fourth quarter is in place and we're going to come back with the specific revenue synergies for '13.

Jon Groberg, Macquarie.

So I guess just big picture, Bill, maybe you can just talk about kind of how the quarter progressed, a little bit more detail? Maybe as you sit here today, what continues to make you feel a little bit more uncomfortable within your business versus where are you feeling a little bit better?

Well, the big surprise at the end of July was our inability to ship $50 million of revenue due to customers unwillingness for delivery acceptance. If we had shipped that $50 million, we would have beaten our guidance with Dako. So obviously, that was disappointing. It's very classical in a slowdown that people will begin to push-out deliveries. As I said in my prepared remarks, there's been no evidence of cancellations during the quarter. But that's the reality of it. So for our guidance in Q4, we assumed the same order and revenue pattern from Q3 going into Q4. I think it's a prudent -- prudent. We're not assuming that this $50 million of revenue that was pushed-out is somehow going to show up in Q4. So we are taking a conservative position, in terms of where our revenue expectation, hopefully, again that there will be not continued deterioration for Q3. We are not planning for our seasonally high Q4 growth rate, so we will assume a flat Q3 in our core business, as Didier said. Then we, of course, will get the benefit of the Dako acquisition in Q4 and that's how we determined our EPS range.

Was that $50 million, was it more weighted towards, I know you talked about weakness in Aerospace, Industrial and Chemical, but was it more weighted towards one particular other industry or segment?

The delivery delays were very consistent to where we saw the slowdown of business. Again, the slowdown we're seeing and I think has been well documented in the newspapers and whatnot in terms of issues with prime contractors and the US in particular and some issues inside the Industrial segment. The Environmental, which is still a large part of our business, again, is very much dependent on local government funding and obviously a lot of jurisdictions are under, particularly in Europe and the US, under enormous spending pressures.

Okay. If I can have just two other quick ones. One just on Dako. Just so I'm clear, that plus 17%, was that just July or was that a quarterly growth rate year-over-year?

It was from the time, we acquired Dako so towards the end of June, a little bit over one month.

Is Dako -- was that, has Dako introduced any new products or what was -- have those kind of new or automated products have yet to be introduced, is that right?

Lars, why don't you talk a little bit about why the quarter, I think in total, is a record, in terms of absolute terms in July as well as very strong organic growth, and maybe you could describe some of the drivers.

Sure. I mean again, as I said the market remained strong, we can see the reports from the industry and that confirms that the funding is in place. I think fundamentally Dako is making good progress. I refer to the base business improvement program that includes us upgrading our instrumentation base, us adding more sales people in front of the customers. We are yet to see the impact of a new automated stainer. As I referred to that in an earlier call, we are hard at work at that. We are a couple of months away from market release. We expect to see that hitting the market during 2013. Obviously, that's going to be the incremental impact of the way we're going to position that stainer. But fundamentally, the market remains strong and Dako is making good progress here. This is across derivatives that we see.

Okay, that's helpful. Then last one, Bill, conceptually here just following along on the Dako. I've gotten a lot of questions, given the weaker environment and your -- the more flexible cost structure that you have, as your ROIC declines and you have less of a variable payout. Can you maybe, conceptually, just talk about how that plays out? Say, in an environment in which you're planning on the ROIC hit because of Dako, but then let's say, the environment is just a lot worse than you anticipate as well. Can you maybe just talk about -- how does that flexibility play out in that environment?

So we have targeted, in terms of variable pay, 10% variable pay for -- based on the overall salaries, so that's the base. I think roughly, our total salary is about $1.3 billion. So at the beginning of the year, we had moved the target of the 10% from a 21% return on invested capital to 25%. So depending on the Dako -- obviously, lowered for a short period of time, the overall return on invested capital, but any performance less than target, it automatically adjusts the Agilent variable pay. We calculate that in terms of the payout, the Q3 plus the Q4. So roughly in Q3, our return on invested capital in total was at 18%. So it's a pretty linear extrapolation from a 25% target at 10% variable pay and it slides down very linearly along that vector. So it's pretty easy to determine what an 18% return on invested capital would end up as a variable pay component.

Okay, that's helpful. Thanks a lot.

Does that make sense?

Yes.

Jon Wood, Jefferies.

So you guys have done a pretty good job over delivering on the core operating model, I guess up until the fourth quarter here. Obviously with the revenue below -- how -- at what point do we start taking structural cost actions in preparation or assuming this environment on the core revenue side continues?

Well, I think it's, again, what we're forecasting is -- and I've been very clear on this, is kind of a muddled go forward business environment. If in fact, that we are able to grow flat core plus the benefit of Dako, we are going to maintain a 20% operating profit without any major restructuring, and that's our first order goal. Ron and the team have taken a lot of action to insure that we can maintain our margins moving forward. We're not anticipating another 2009. Again there's obviously issues of the euro still hanging out there, but right now, we're forecasting a flat growth environment. We believe that we can maintain our 20% operating margin with the existing headcount.

Okay, understood.

Again, I mean the one caveat is that Ron and the team and again are working to drive out manufacturing costs. We are looking at site consolidations, so there will, in fact, be some impact in terms of streamlining our order fulfillment. But again, it's not a major restructuring of the Company.

Got it. So Didier, are you willing to give the operating profit of Dako in the fourth quarter? Also, I don't know if I missed this, but if you could give the core growth assumptions by division for the fourth quarter that would be great as well.

Basically, what we are expecting is that a slight year-over-year deterioration in the core growth for EMG between Q3 along -- and Q4 and also for CAG and about the same core growth for LSG and in DDG, Bill already said that we are assuming $85 million of revenue for Dako.

The overall operating profit on Dako is around the 15% operating profit. This is after restating from ISFR to GAAP. Of course where R&D can be capitalized in ISFR also includes the investment that we are putting into Dako to beef up R&D and to be able to expand into Asia moving forward. But what's interesting here is that the slowdown is in segments across all of the business. We're not seeing what we saw in 2009 where the electronic business crashed. We are seeing softness in Academic and Research, Environmental, Aerospace and Defense and Industrial. So as a result of it, as Didier said, it's a lot of give and takes that end up with roughly a low core growth rate.

Okay. Just to make sure, Didier, Electronic Measurement you said, so slightly worse than flat, did I understand that correctly in the fourth quarter?

Yes, no exactly. Overall for Agilent, we are going from a 2% core growth in Q3 to flat in Q4 and so you see about the same kind of -- it's homothetic by business or with EMG and CAG a little bit under the average and LSG a little bit better than the average.

Nandita Koshal, Barclays Capital.

Bill, it sounds like Asia was exceptionally weak in the quarter. It seems like there was a falling off a cliff towards the end of the quarter. Could you talk about the country by country trend maybe give us a little bit of color around the China environment, is there something you expect to be persistent, is there a reset in your expectations. I know in the past, Didier has been relatively confident around the base trends there. Is there any change on that front?

Didier had noted the Japan being down 10%. Again, I'll have Didier explain exactly how we demonstrate orders versus revenue, but in shipped-to country, China's business was up 23% year-over-year. This was all driven by the wireless business in EMG, Chemical Analysis and Life Science business were in mid single-digit growth rates. Didier, why don't you again, explain in terms of how we note regional revenue versus how the orders are necessarily placed.

Yes, so in all the reports that we provide and all the regional information that we provide, orders and revenues are consistently computed on the basis of where the orders is taken. So if an order is taken in the US, it impacts both the US -- the regional, the Americas order growth rate and the Americas revenue growth rate. The number that Bill gave you by country, we are able to track on a shipped-to basis. So there might be an inconsistency between -- there is obviously between the number that Bill gave you, 22% growth or 23% in China on the shipped-to basis, and the overall Asia Pacific excluding Japan growth rate. But just because we want to report orders and revenues the same way by -- based on where the order is taken, so sorry for the -- it might add a little bit of complexity but it provides a little bit more information to do it those two ways.

Okay, I guess if you fundamentally view the demand environment in China, Bill, how would you look at that outside of the dynamics of where the orders are recorded, et cetera, but what does the fundamental situation there look like? Is it sequentially worse? Did you see a similar falling off in July? What's the view going forward? We've seen some other competitors that have commented on China being weaker than expected and a recovery likely pushed-out into 2013, so could you give that fundamental color from an Agilent standpoint?

Overall, China is slowing, showed up in our numbers, the big swing factor in China will be wireless manufacturing, because 85% of the cell phones in the world are manufactured in China. The rest of our business is in the mid single-digit growth rate, which is half what it was a year ago. It's not gone negative, but there's no doubt that China's slowing down as a result of issues particularly in Europe and what we're starting to see in the United States.

Okay. I also wanted to ask you about the investment -- the top process behind investments in the business. In the past, you've talked about Academic and Government, just the whole end market being a higher growth potential market for Agilent, and therefore, the investments were higher and we were to expect lower incrementals in the near-term. Given all of the challenges we are seeing with funding and a slowdown there, has your view changed on the return on investments in that space? Is that a part of the cost savings that you're talking about? Or are the cost savings basically focused on EMG again?

No again, the cost savings that we are targeting are in manufacturing. They're not in EMG. EMG has the best gross margins in the Company. The focus continues to be on Chemical Analysis and Life Science, predominantly the Varian product lines and that is what we are focusing on. I've been very clear, we need to get five points of gross margins improvements and both Mike and Nick, through Soon Chai's organization, are working on to be able to make that happen. At this point in time, we are not changing our investment portfolio. A Company cannot instantaneously jerk a Company around for a momentary slowdown. If in fact there's a financial crisis in Europe next year, then we'll deal with that. But we are absolutely committed to continue to invest in Research and Development; committed to Academic and Research; committed to insure that Dako is successful; continue our investment in Life Science; and of course, be competitive across all of the applied markets and electronic markets. Again, we're a Company that's been around since 1939 and we will continue to provide our customers the best measurement solutions in the world.

Ross Muken, ISI Group.

Bill, I'm trying to get a sense, piggybacking off what some of the other folks asked, just on where you think we are kind of in the contraction and demand. I mean when we look at the macro, we've been seeing PMIs come in for a while, you've seen guys across the tech space on the customer side have inventory issues and go through a lot of the demand pain and a lot of the high end CapEx guys leverage to Asia and some pretty bad Q3s. But we're seeing the market and others imply that we're going to see another side of it. That we've come down, we've followed this path the last few summers and then things get better in the fall/winter.

I guess I'm just trying to get in the context of what's implied in Q4 and vis-a-vis the reaction you saw from the customers, how you characterize this versus other examples, whether it's regionally or by division and just get a sense for, all right, so this is bad, but we knew the economies were slowing. So was this that much worse than you would have expected given all the data we saw. What are we looking for to see the other side of this -- of we actually could see an improvement in growth at some point. Clearly that's what the market in and of itself is implying.

Well, first of all, the big surprise is that we had a delta change of $50 million of revenue delivery the customers didn't want. Now, having been in the industry for a long time, this doesn't surprise me whatsoever that when people get nervous about the macroeconomic environment they slow down spending, 70% of the Company is in capital equipment, it's the easiest thing to stop. So that's exactly what happened in the markets that we had outlined. In my opinion, the fundamental issue is that you have economic and political uncertainty in Europe and the US. That's why this is so different than what we see in the past.

It's not a supply and demand, it's not a normal recession but given the issues of the euro and what's going to happen -- then you have this financial cliff in the US in January, complete political disagreement in Washington. People are really nervous. I think that depending on -- quite honestly, if somebody agreed tomorrow to say that Europe is going to do a euro bond and the US was not going to have a financial cliff in January, you would have a different outlook. I think it's as simple as that. Of course, China where their number one trading partner is Europe, is just going to see the second order effect of what's going on in Europe and the US. I think it's that and that's why it's so hard to predict what's going to happen. Didier?

I would just add that the slowdown, even though it was expected -- everybody expected the Q2, Q3 GDP worldwide to be lower than Q1. It was more pronounced. When we guided in May, the PMI new order index was at it's highest for a while and then it dropped to being the lowest since 2009. So it was fairly sudden because of the factors that Bill has mentioned and it's not something that -- even though we are conservative and we are careful -- and on top of that, today people say, well worldwide GDP is going to be 3.1% growth for Q2, Q3. From our standpoint, when we look at our models and our correlations to GDP, it feels a lot more than 2.5% and 3.1%, so I'm not even sure that the numbers that people are expecting will really materialize. I think they are probably going to be revised down in the next few weeks.

So I guess, do you think to some degree on a relative basis to your peers in terms of how the performance just aesthetically looks -- obviously you have an exposure to a couple areas that they don't, like on Aerospace Defense which was weaker. But on the traditional tools businesses, do you think the function of the timing of the quarter, in that July was net worse and we'll see this play out in 3Q more broadly from a demand perspective? Or were there other things specific to some of the product lines or some of the end markets where you touch that you saw an exaggerated delta versus expect, relative to everyone else?

I think you outlined the two issues. First of all, we had the extra month. So if you believe the macroeconomic environment is slowing, greater than in July versus June, then that would impact us differently than our peers, who are typically on a calendar quarter. Secondly, is that if you do a weighted average growth of our peers, we grew slightly less than them. But we have much higher exposure to Aerospace and Defense and Industrial. A lot of them have a much greater exposure to Academic and Research, but the Industrial and Aerospace and Defense is 18% of the Company. So the areas where we've had strong market positions, clearly we saw the most headwinds in Q3.

Okay. I guess just last point. I just want to get this clear on Dako, because I feel like there's a lot of -- a bit of cross messaging. In terms of how you're thinking about the revenue opportunity there from the synergies perspective versus the original, are we in the same place or are we moderately worse? I just -- it isn't clear to me kind of in terms of how you're thinking about the total return equation there, what the all in conclusion is having owned this now for a couple months.

Well, we're not going to overplay. We're off to a great start. July was the best month in Dako's history, and as Lars said, there are going to be ups and downs. The data and the forecast is that we are at or above what we told everyone to justify the acquisition. On the other hand, we are only at the beginning. We still have a lot of work to do and the good news is, that it wasn't bad news, which often happens in an acquisition. But we won't be bragging about it until we get a couple years into the -- leveraging the capability of Dako and Agilent together, that's really where the proof in the pudding is going to be, to be able to get the return on the investment we had made. But we're off to a very good start.

Tycho Peterson, JPMorgan.

I appreciate some of the color you've given on guidance. As we think about cash flow though, can you, Didier, maybe update us on how you're thinking about cash flow guidance for the remainder of the year? Or do you still think you can do north of $1 billion for the year?

Yes. No change, $1.1 billion is our operating cash flow minus about $200 million of CapEx, so $900 million net.

Okay. Then, Bill, relative to your own expectations for the quarter, can you help us think about how much of the delta was Europe versus Asia relative to your own internal expectations?

Yes. It was mostly market segment just as we had defined. Again we tend to look at business by Company and by market because most of the companies are so multi-international and then as Didier said, we add it up at the end about what region got what orders and what revenue. But again, the surprise was the slow down in orders and the unwillingness of customers to take delivery. That was the issue. Again you add in $50 million back into our revenue number, we wouldn't be having this conversation. It all showed up at the end of July. Again, as any capital equipment Company, all the shipments tend to be bias to the last month of the quarter and we could not get customer acceptance.

Okay. Then as we think about kind of the Diagnostics and Genomics business, Dako is more or less in line with our estimate, overall that division was a little bit light relative to what we were expecting. Did you see a slow down in Genomics and can you comment on some of the underlying trends there?

The quarter for the Genomics was slightly below expectation in Q3, however, they are going to be able to make that up in Q4. So again, I think we're going to be in fine shape, it was just the seasonality of the quarter on how deliveries are being done there. Obviously, they are impacted the most by Academic and Research, they had some negative. There's a fair amount of pressure on the gene petitioning, it had a sequencing, on the flip side of it is, as I said, the acceptance of our new probe technology has been great. The number of customers had increased dramatically moving forward. We're introducing this technology through the Dako sales team. So we're really quite reasonably optimistic as we move into Q4, in terms of our new group Diagnostics and Genomics group. We're quite optimistic.

Lastly, can you talk on price, were you able to hold price in this environment with some of the delays or do you have to see some slippage across the board on price?

In this environment there is a lot of pricing pressure across every one of our segments moving forward and that's why, as we had outlined, we are very aggressive in moving after manufacturing. We're not signing it up, just following all of the bottom lines, because quite frankly, a lot of the work that Ron and team is focusing on is going to offset some of the pricing pressure that we're seeing.

Paul Knight, CLSA.

I guess we're really trying to sort out what the earnings will be like this time around versus '08, '09. To start that, what within this pie chart showing Industrial computers and semi's, it's 20% of Agilent in the quarter, is most of that now Industrial and how do you think that Industrial market will be this time around, like what was it like in '09? Will Industrial have a lower trough compared to your semiconductor computer that you saw in '09?

Yes, the difference between today and '09, I mean are not the same because in '09 there was lack of liquidity, there's lack of cash, and people just stopped spending capital equipment. Right now, people are starting to be conservative because, first of all, 2009 is very real in their memory. Two, all you have to do is read the newspaper every day and the lack of progress in Europe, the lack of progress in Washington causes people to not want to spend. If you look at consumer savings rates, gone up one point in the United States already. So if there is a euro crash of some sort, you will see in my opinion a replay of 2009. Right now, there is no evidence of a replay of 2009 at all. This is a very hard one to call because I think people are just waiting to see what happens because of the lack of clear government policy.

I guess that gets to the cyclicality issue again. Is it more Industrial that you see in that sector or is it also the computer semiconductors?

The Industrial sector was where we had the problems, the computer semiconductor business actually had a pretty decent growth.

Okay. Last, I guess you're still shooting for a 20% plus Op margin in a no growth world?

Yes.

Amit Bhalla, Citi.

I wanted to understand the lab environment a little bit better and how the labs are thinking about the consumables that you're selling to them versus the capital equipment. Can you talk a little bit about the product lines that were hit the biggest and how consumables played out in the quarter?

Sure. Nick?

So first, for my comment and then I'll turn this over to Mike for his consumables comment. But for my comment, the LC business was pretty soft. We had a situation at LC where the overall growth in revenue was negative although the orders were positive. But that business was pretty soft quarter-over-quarter. Mass spec continues to be positive both on orders and revenue. So it is more that routine replacement subset that we're seeing some softness in and the rest of the businesses where it's a technology upgrade, we're still seeing strength and that's true obviously more for Pharma than Academic. The Academic problem was pretty regional. It was very much US and Europe and not rest of world. Mike, if you want to talk about the consumable piece?

Yes. Sure, Nick. Just to continue the similar dialogue here, as Nick pointed out, on the LC side -- the replacement cycle, we saw a similar phenomenon on the gas chromatography side in terms of replacements. But as we pointed out, some of the newer higher end products are really continuing to grow quite well. Relative to the consumables, we're still seeing interest in the ongoing operations and funding those by our customers and saw growth in our consumables business in line with our peers.

As a follow-up, when you talk about China LSG and CAG growing mid single-digits, do you think that mid single-digit gets worse going forward? How do you think that plays out -- the Life Sciences for China going forward? Thanks.

Nick and Mike maybe can comment for each of your respective markets.

Yes, I think the market in China for Life Science continues to be a market that's going to grow above their GDP rate and that's because it's a place that they're investing in their five year plan, so I think the market macro looks pretty decent and you just have to look at their GDP and add a bit. We obviously are seeing a lot of competitors and we're big in China, so we're adjusting our footprint and our behavior to make sure that we stay at or above the market rate and that's a challenge for us. But the market itself looks pretty good.

So, just to tease out that last piece, is it competition that had the bigger impact this quarter or is it macro? Which one of the two for China Life Sciences?

Life Science comment would be competition.

Relative to the CAG side, as Bill pointed out in his comments, we had solid single-digit revenue growth for the quarter and we would not expect to see a slowing from that growth rate as we move forward. What we did see in the quarter was really some level of uncertainty in the customer base, obviously from some of the economic concerns that we've been talking about today but also in the run up to the leadership changes that will be occurring later this year.

Thank you.

Our competitive position in terms of share remains very solid.

Richard Eastman, Robert W Baird.

Just a couple questions on the EMG piece of the business. The communications piece up 7%, did we see any broadening of the strength there outside of the handset test business or was all of the strength kind of concentrated there? Have we seen anything come back on the base station side, or --

Guy?

Yes. So to answer this, we did not see changes on the base station in infrastructure compared to what we said last quarter. So this is staying at the low side. We have seen strength of our costs to the overall wireless manufacturing segment and also the R&D part of the wireless handset.

But you also saw, Guy, a negative growth on the optical test side which was quite substantial. That was really the big news buried in the numbers -- is a very substantial cutback in optical test.

That's correct. It's really the overall infrastructure malaise.

Okay. Then just one, maybe a longer term question. But there's been an announcement -- a big service provider here in the US talking about kind of phasing out their legacy 2G network. Now, this is out to the 2016, 2017 time frame, but I'm curious, does that suggest an accelerated spend then in LTE and/or -- what would you expect to be the impact on phasing out the legacy 2G spend but then accelerating impact on the LTE? Is that, generally speaking, a positive for sales and margins, an acceleration? Or --

I wonder if Guy or Ron have a different opinion. My view of this -- and we went through the whole change from analog to G2, G3, G4 -- that the market doesn't move that fast and so at least based on the last 10 years data, one wouldn't see an abnormal change in overall investment but Guy? Ron?

Yes, I would really concur with what you said, Bill, it's the CapEx that they are going to invest is not really changing.

Right. It's just shifting. Okay.

Shifting.

But should be somewhat of a positive on the margin line?

It is more -- I would say the positive is of the R&D side, because obviously more investment going into additional LTE investment in designing.

I see.

Potentially for LTE advance that face more and more need for what they call carrier aggregation to make the most of the network and the bandwidth they have, so that's where I would see the positive signs.

I understand. Okay, thank you.

Mark Douglass, Longbow Research.

Again on EMG, so what are you seeing as far as com orders going into 4Q. Did you see a hit there in 3Q or are you seeing kind of a steady state continuation of the kind of mid to high single-digit growth?

Guy?

Well going forward, I would say there, the sequential, especially on the manufacturing side, we expect this to moderate slightly in Q4. As you know, there are cycles for some of this production and the time where some of these devises go to market, so that's probably the comment I could do for Q4.

Okay. You're not expecting base station pick up either?

No, we're not. Because it's going to need a couple more quarters at least.

Okay. Bounces along the bottom. Then can you comment on the -- you mentioned that there was weakness in the distribution channel. Do you have a view of sell-in versus sell-through, the amount of destocking versus in demand there and where do you think inventories are?

Yes. We are very rigorous on managing our distribution inventory and we track that very well. So there's no evidence, Ron, correct me if I'm right, of any build up in our distribution channel. Yes, we take credit when we ship to them in revenue, but we watch the sell-through very well just to insure that we were not exposed.

So that's matching pretty closely the sell-through versus your sell-in?

Yes.

Patrick Newton, Stifel Nicolaus.

I guess first for Didier, a question on gross margin. If we look at wireless manufacturing test still as being at elevated levels as a portion of mix and if we look at the $50 million in orders that haven't really shipped in the quarter and then we take into account inventory being somewhat elevated. Should we expect inventory to be worked through in the coming quarter, and consequently, expect some margin pressure perhaps with gross margin declining sequentially?

No, you would expect -- we had a stronger wireless manufacturing test business in Q3, and as you noted, it comes with lower gross margin than the average. In Q4, you would expect a sequential increase in gross margin and, by the way, also a slight sequential increase in operating margin also.

I do believe there's some opportunity to reduce inventory, but most of the inventory growth sequentially is the result of the inclusion of Dako.

Okay, that's helpful. I guess you discussed Aerospace and Defense being a little bit weak. You discussed that you're seeing a little bit of I guess order softness, you think because of the worry about a fiscal cliff, but as you guys sit here and you kind of do your round tables and you look at the Aerospace and Defense business and you think about I guess a range of expectations that could happen with sequestration, how do you look at that business playing out in 2013? I realize it could be a wide range, but if you just give us a thought process of potential outcomes.

I have been very public about this, that one of the big risk factors to Agilent is the Aerospace and Defense segment of the business, which at that time is 10% of the Company. Now it's down to 8% of the Company. We are coming off a record high investment over the last number of decades in Aerospace and Defense. With the wars winding down, the desire to cut an additional $50 billion, the sequestering as you said is another $50 billion. If that happens, I believe that Agilent is going to be impacted. The only offsetting can be what type of programs are still funded.

The issue is, that once there's that magnitude of a cut, everything just comes to a screeching halt until people decide what programs they are going to fund moving forward. Guy and the team, of course, are trying to get more business outside of the United States. We're shifting into operational surveillance. We obviously continue to focus on radar systems and guidance. But if the financial cliff happens in January, I think that you're going to see a major impact to US Defense spending. As we said in our notes, that government spending hasn't changed much, not too surprisingly, it's the prime contractors that are already cutting back in anticipation of a major cut in Defense spending. That's what we saw and it happened faster than we had anticipated.

Bill, as you kind of look at that big picture, are there any businesses outside of Aerospace and Defense, you may be getting into Academia and Government that you think could also see some of the negative impacts of those potential outcomes?

Every one of our segments that have high government spending are at risk of having pressure. Start with the local governments, no money; go to State level, State by State; go to countries; anything that we touch and we saw it in this last quarter, Aerospace and Defense and Environmental testing was below expectation.

Have you ever quantified local plus State plus national and government exposure?

We know what the number is overall. We've never provided that level of detail. But I think Mike and the team and Guy's team know exactly where the opportunities are in each of -- by country -- by region, province and by State.

Absolutely.

Okay, that's helpful. Then, I guess just one more maybe for Didier. As you kind of move into this sluggish macro environment and you kind of are in the process of digesting Dako, how should we think about your willingness to lever your balance sheet? Are we in kind of a cash replenishment cycle? Are you guys still actively looking for the right opportunity or do you think that your product portfolio is in essence where you need it to be at this point?

Well, we always are looking at opportunities for either bolt-on acquisitions or something. Obviously, there's no way we're going to do anything in the short-term, considering we want to declare victory on Dako before we become more aggressive, the same way as we've done with Varian. But certainly, the driver is not the availability of cash or how cheap interest rates would be if we would do a bond offering. It's just what opportunities are we seeing to create shareholder value and right now, we are entirely focused on making sure we create the committed shareholder value in Dako. In the meantime, there could be small bolt-on acquisitions, but nothing big in the short-term.

Isaac Ro, Goldman Sachs.

First off, would be on book-to-bill this quarter. Could you maybe give us a sense of how that looks in the aggregate and then also split it out between the EMG side and then maybe the rest of the business?

Book-to-bill I think is 0.97.

You have the information on our vital -- on all our documents. You have the order and revenue in all the schedules that we've provided.

Yes. Okay, I'm just trying to get a sense of the pacing between EMG versus the rest. I'll have another look. Okay.

Yes.

This is the message. This is again, at this point in time, the softness we saw was in EMG and in Chemical Analysis -- Chemical Analysis related to government spending, Life Science actually did overall, did reasonably well even with the pressure in Academic and Research. Obviously, Dako was a huge benefit to the Company. But it is not a massive change in one segment versus the other at this point in time.

Sure, okay. That's helpful. Then Nick, maybe if I could ask a question on China to follow-up on the earlier one regarding the government funding there. I think a lot of the other companies in the industry have been talking about waiting on a lot of the new government officials to get into play, start releasing budgets. Some of that's been expected to show up on the back half of this calendar year, so just wondering if you could maybe comment on your expectations for those government dollars to start flowing at some point later this year.

Yes. I think, the comment is -- let me just say, I can pretty much validate the comment. They are putting a lot of new officials in place. There's a question of government handover but in terms of when you get down into the bio-analytical sector and certainly Life Science, there's a lot of money that is in principal committed and is yet to be committed by the actual end researcher, the National Academy and we expect that to occur in the next few months.

Great. Then maybe a last question, if I could on the long-term picture. Didier and Bill, could you maybe remind us what kind of a global GDP growth assumption you guys bake into your views, because you guys obviously have your foundation call for 8% core growth. Just wondering what underlying GDP growth you think you need to hit that number on a multi-year basis?

That would be about 4.5%.

Okay. So, just last there, is it fair to say if we look into a multi-year period where 4.5% looks difficult, would you guys maybe revisit the long-term guidance number?

Absolutely. If we don't believe in the 4.5%, absolutely. Right now, it is the consensus estimate and I can tell you there is a lot of debates in house whether economies are smoking something. What are the downside risks? But right now -- it is the consensus estimate; it's the IMS number; it's all the various bankers, economies still going for this ongoing secular growth rate for the worldwide GDP, with obviously, emerging economies being the growth engine.

Understood. I'll go back and check with my guys on that. Hang in there, thank you.

Yes. That's right. The message is if in fact, as predicted that the worldwide economy grows next year at 3.8%, we're going to do fine. Agilent has done a great job of -- to be able to respond to market opportunities anywhere in the world. The big issue is nobody really knows what is going to happen. I would submit the fundamental issue is the issues in Europe and the United States.

Derik De Bruin, Banc of America.

So the Life Sciences and Chemical Analysis gross margin -- not gross margin, operating margins improved nicely sequentially, which is impressive, certainly, in Chemical Analysis given that the organic revenue growth is weaker. What happened quarter to quarter on that?

Ron, why don't you talk about some of the things that we're doing from an order fulfillment to a standpoint to, again, meet our commitment to improve the gross margins by five percentage points?

You may remember that back in November, we announced that we created an Agilent Order Fulfillment organization and that's to leverage one $7 billion OF organization. They're focusing in three particular areas. The first one is, our overall manufacturing costs of actually putting together products and where products are made and there's some minor consolidations that are going on of locations for that piece. The second piece is, to use one integrated supply chain, which can get the best sourcing possible and that is located in Asia where we had the EMG supply chain in the past. The third is, to lower our logistics costs. All three of those areas are being used to leverage our capability across all of the businesses, and again, that is what's driving the gross margin improvements in Life Sciences and Chemical Analysis. As Bill had mentioned, there is some pricing pressure -- that it shows up in the gross margin line less than it shows up in actual COGS dollars or a little bit more slowly, but the progress has been exceptional.

So if you look at a scenario where you've got these improvement programs in place and the economy muddles along for the foreseeable future -- did I hear you correctly in that scenario, that a flat year-over-year operating margins -- or operating margins stay in the 20% range, is what you think is achievable?

Yes.

Okay. Then just one final throw away question on this. On the CHE business, how did the vac -- I would assume you got a bigger hit from the vacuum business, the old Varian vacuum business that's in there. Was that disproportionately down relative to the [semi] analytical instrumentation businesses?

Mike?

Yes, thanks for the question. The vacuum business was in the same range as the Industrial segment, so down.

Daniel Brennan, Morgan Stanley.

In the current environment, I know Bill and Didier have addressed this in a couple points in the call, but I'm interested to get your take, kind of overall. But how was management balancing making strategic investments for its being more aggressive on the variable cost side to protect earnings, given the experience in '08/'09, you certainly have taken a lot of fixed costs out. But just looking ahead, how hard are you pressing on that variable cost line today in order to get to those fourth quarter numbers?

This is the power of the operating model that we have. A lot of the variable costs that we've -- you've already seen are automatically built into the system moving forward. Ron and the team, of course, are looking at all of this discretionary spending, focusing the investment on where we can drive shorter term opportunities. But in a muddle forward scenario of low growth, I have the highest confidence that we can continue to invest in technology that the market demands and not exercise the organization in such a way that we're distracting people from being the best Company to do business with in our market segment. So again, we have a lot of flexibility. Obviously the Dako inclusion, the continued growth in this, is obviously very helpful for us in this environment. Barring a major economic reset, I think that within our framework, we can, in fact, deliver this 20% operating profit on essentially flat growth.

Great, thanks, Bill. Then following-up on a question earlier, but in terms of more near-term, say, looking at the fourth quarter, does your guidance imply -- can you give us some guide posts there just broadly speaking, say if PMI is the number that Didier focused on earlier on in the call, but is there something where -- is there kind of a range of estimates that you've looked at, that you feel comfortable with maybe on some of the macro indicators in terms of reaching your fourth quarter guidance?

How we do it, it's more mundane than that. We know what the backlog is, we know what the order pattern was in Q3. Historically, Q4 the orders are the highest of the year. In our guidance, we assume that was not going to happen, that we would see a replay of Q3 in Q4. So that's the baseline revenue. So we know what the order turns are, we know what the forecasts are, we know what the funnel is, but we took a position saying we have a backlog, we assume that the push-outs in deliveries weren't going to show up in Q4, that phenomenon would continue, And that as a result of that, you're essentially seeing a flat organic growth rate from Q3 to Q4. Then we get the benefit of Dako on top of that, that's how we determined our guidance.

Great. Then maybe one more. Just Asia ex-Japan since -- excuse me, Asia ex-China, sorry. But China certainly had some strong growth in the quarter although the base decelerated as you mentioned. But outside of China, can you just comment, were there any particular big countries that experienced a more significant weakness or not? Or just any color on what you're seeing there would be helpful?

Yes. Have Ron talk to you. Japan's the problem, it's minus 10%, but go ahead.

Japan minus 10%. In India with all the currency fluctuations we saw some purchasing folks that were delaying trying to play the currency better, but other than that it was relatively consistent.

At this time, there are no further questions in queue. I'd now like to hand the call back over to Alicia Rodriguez for closing remarks.

Thank you, Keris. This concludes our call for today. I'd like to thank everybody for joining us. If you have any questions, please give us a call in IR. Thanks again.

Ladies and gentlemen, that does conclude today's conference. Thank you for your participation. You may now disconnect. Have a wonderful day.