ACCO Brands Corp (ACCO) 2006 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the third-quarter 2006 ACCO Brands earnings conference call. My name is Melanie, and I will be your coordinator for today. (OPERATOR INSTRUCTIONS). Your speakers for today will be Mr. Neal Fenwick and David Campbell, and your first presenter will be Mr. Neal Fenwick, the Executive Vice President and Chief Financial Officer. Please proceed, sir.

(technical difficulty)-- David and I will take questions.

Before we begin, I must highlight that our remarks this morning will refer to our results on an adjusted and pro forma basis, including GBC's business in all periods and excluding restructuring, non-recurring and unusual items.

In addition, in order to provide meaningful discussions of the underlying quarter results, we will reference comparable results, which exclude from adjusted results the impact of currency translations, our changing calendar days and incremental management incentives. A reconciliation of these results to GAAP can be found in this morning's press release.

During the call, we may make forward-looking statements, and based on certain risk factors, our actual results could differ materially. Please refer to our press release and SEC filings for an explanation of those factors.

Now I will turn the call over to David.

Thank you, Neal, and welcome, everyone. I'm pleased to report that ACCO Brands made great progress in our third quarter. We delivered strong financial results, while continuing to meet and in many cases exceed our merger integration goals.

The third quarter marks a significant inflection point in our business. Our margins improved, and we began to see positive results flow from our integration efforts. Looking forward, we foresee a positive year-over-year improvement in operating income as synergies build and we continue to recover margins with price increases.

Equally important, we have progressed our plans for our commercial business and identified an additional $20 million of annual cost savings from last year's merger. This brings our total expected cost synergies to $60 million. I will speak more about our commercial business plans shortly.

Our numbers are encouraging. Compared to 2005 pro forma results, net sales were 2% lower. However, this is primarily the result of divesting low margin business in US Office Products sooner than we had planned. While negatively impacting sales, this should accelerate our bottom-line improvements and position the business well for long-term growth. All of our other businesses grew their toplines.

Adjusted net income increased to 15%. We achieved operating profit gains in most of our Office and all other Computer Products businesses. The sole exception is our European Office Products business where we continue to make long-term strategic investments that will provide us an efficient mainline European infrastructure. I will share additional thoughts on our plans for Europe in a few moments.

We reduced our debt by $20 million in the quarter. So far this year we have repaid $100 million in debt, far exceeding our mandatory debt repayment requirements. Building a strong balance sheet is a high priority for future financial flexibility and growth.

Overall I'm pleased with our financial performance and strategic repositioning to date. Our focus going forward is to widen even further our year-over-year earnings improvements, demonstrating our gains are consistent with our long-term guidance.

During the quarter, we further progressed our integration activities. We announced plans to consolidate or close an additional four facilities which will complete the merger integration within Office Products, reducing our North American facility footprint by 56% and our European footprint by half. These actions will ultimately account for our $40 million of initially targeted cost synergies.

We knew last year that the merger with GBC created substantial opportunity for us. As the integration evolved, it is clear that opportunities are even greater than we first projected. Today we are announcing plans for our commercial business that will better allow us to reconfigure our business around our consumer needs and improve our new product development activities and growth initiatives. These plans also allow us to realize larger net cost synergies than originally anticipated.

As we have previously communicated, a comprehensive strategic review of our commercial business was planned prior to the merger. Over the initial months following the merger, we kept GBC's commercial business separate until we could focus resource to better learn the business and determine how best to proceed. Our existing management teams worked with outside consultants to pursue a thorough understanding of our commercial businesses. The review identified two very attractive business units -- a document finishing group and a commercial laminating solutions group. We believe the Legacy structure of GBC had comingled these businesses, diluting their investment and resources.

Our realignment actually restores the businesses to a structure similar to what existed at GBC in the mid-1990s, a period of great performance and growth. Document finishing has suffered from an absence of investment and innovation. Today's consumer need to simply and easily bind documents generated by color printing and photocopying is currently unmet. We have the technology and the consumer understanding to fill this void. We are currently recruiting an individual to lead this business.

In commercial laminating solutions, we believe we can grow the business through the rationalization of the supply chain, accelerating investment in laminating technology, sales and marketing initiatives. Very importantly, we now see both businesses being able to leverage our low-cost shared service infrastructure. These most recent moves represent the final piece of the puzzle as we strategically align our business.

I'm highly confident that this positioning will give us a significantly stronger platform for innovation and a greater opportunity to invest in strategic go-to-market activities. This new structure in combination with our ongoing integration of our Office Products business will now result in annual cost synergies of $60 million by the end of 2009.

Our management team is enthusiastic about our plans and eager to begin operating under this new structure. Further information is available in a news release we issued this morning.

Let me continue by discussing in greater detail the opportunity we see in Europe. Europe represents a major area of future growth for ACCO Brands. Our largest customers view Europe in much the same way. Today mainland Europe is a fragmented market for Office Products, characterized by regional brands and many country-specific products and infrastructures. But, as we have already seen in other industries, borderers are beginning to blur. The pan-European solutions are winning out, both for ourselves and for our customers. To respond to these trends, we have been hard at work since the fourth quarter of 2005 transforming our business model from a country base structure to a pan-European structure. We now have in place a strong management team with backgrounds in consumer products and the experience of having gone through these kinds of changes before.

We also consolidated our country salesforce, closed three plants and begun the process of integrating eight country-based IT systems. We are well on our way towards consolidating our 12-country based distribution facilities in Continental Europe into one state-of-the-art logistics hub in the Netherlands.

As we previously reported, we have moved to a pan-European pricing structure. This will have the short-term effect of reducing margins, but will over the long-term create a more level playing field across Europe and better position us to take market share from regional European competitors.

We are retooling our new product development programs to create products that will resonate with consumers all across European markets. This, in turn, is part of a larger initiative to evolve our business units into global businesses, and we believe the payoff will be substantial. We are confident the steps we are taking in Europe today will have the potential to make our European Office Products business equal in size and profitability to our US business through organic growth, growth with our customers and strategic bolt-on acquisitions.

Now I will turn the call over to Neal who will provide further detail on our quarter's results. I will be happy to take your questions following those comments. Neal?

Thank you, David. I will now review some of the key financial highlights. As expected, the third quarter did mark an inflection point for our business and importantly for margins. On an adjusted basis, overall gross margin increased 190 basis points. SG&A as a percentage of sales also increased by 170 basis points, mainly due to long-term incentive charges leaving operating margins improved 20 basis points.

However, the underlying improvement in gross margin should give confidence for the future.

This improvement was accomplished on less than robust volume growth and is mainly the result of the predicted stronger second half for Kensington and the flowthrough of net positive synergies savings.

The negative impact from raw material, freight and distribution increases moderated in the quarter. Year-to-date raw materials and freight and distribution costs have had an 80 basis point and 40 basis point impact on margins respectively and thus far have been offset by 100 basis points of pricing, excluding the European price realignment.

The increase in SG&A costs was primarily driven by $7 million increase in management incentive with $4 million equity incentive charges in the current period and the prior period benefiting from the reversal in accruals.

In addition, we invested an additional $2 million in our pan-European operating model, and foreign exchange also increased SG&A by $2 million.

From this point forward, we continue to expect pricing to further offset the cumulative impact of increased raw materials, freight and distribution costs, particularly with better flowthrough from the July price increase and volume in the fourth quarter followed then by the larger January 2007 price increase.

As a reminder, in the third quarter of last year, we merged ACCO World and GBC. While this was an exciting event, it did create some accounting challenges. One of these was to synchronize reporting calendars. This resulted in Q3 of last year including $10.6 million in nonrepeating sales and $0.7 million of nonrepeating operating income. This is the calendar effect that we refer to in our press release and tables.

Now turning to our segments. Office Products pro forma net sales adjusted for currency and calendar days declined 2.7% as David noted. The decline was driven by the US where we saw some early impact of our decision to exit low margin business and some pull-forward ahead of the July price increase.

More importantly, we saw operating income improve over prior year. In terms of Office Products comparable operating margins, we saw a strong 70 basis point increase in the third quarter, driven by North America where we began to see the positive effects of the synergy savings, exiting low margin business with a very modest benefit from the July price increase. We anticipate most of the price flowthrough to be realized in the fourth quarter. Pricing was impacted by a number of seasonal back to school promotions, and the European price realignment continues to offset the US increase.

As we look to sharpen our focus on the future, we now expect about a $25 million impact in 2006 from exiting low margin business and the completion of the Perma divestiture. This will mainly impact the fourth quarter as we have only felt a $6 million impact at the third quarter. Next year we will see an incremental reduction of about $40 million in sales, mainly in the first three quarters and, therefore, expect Office Products sales to decline as we prune back business that does not fit our long-term model.

It is worth remembering that while headline sales volumes are adversely impacted by this decision, operating income is not, and furthermore, working capital can be redeployed to more profitable uses.

The increase in US operating income was mitigated by Europe where we continue to be impacted by negative pan-European price harmonization and our investment to change our business model to operate on a pan-European infrastructure. As David has noted, we're positioning ourselves in Europe to capitalize on what we believe will be a long-term benefit.

However, for the year, it is not, and we have added $8 million to our year-to-date operating expense and seen a $5 million negative pricing impact. We will not start to see a payback until 2007 as we collapse the existing structure into the new model throughout the year and gain the benefits from additional volume leverage.

For Office Products as a whole, we expect the year-over-year improvement in margins to accelerate in Q4 and throughout 2007 onwards. We have a larger and broader price increase taking effect from January 2007. We have a cumulative build in net synergies, and we continue to anticipate seeing some volume pulled forward into Q4 ahead of the price increase. While this obviously will bode well for Q4, it will make Q1 sales volume softer.

Now turning to Computer Products. As expected, Computer Products comparable operating margins were strong, increasing roughly 500 basis points. We have now lapped the stepped up investment in go-to-market activities that began last year and started to see the benefit of greater new product launches. We reiterate our belief that we still expect operating margins of about 20% for this segment for the year as a whole.

Growth in the quarter was a bit lower than our long-term expectations for this business, coming in at 6.5% when adjusted for the effects of calendar and foreign exchange. Part of the reason for less robust growth was the exiting of the Cleaning Products category, which is a low margin commodity. This accounted for about 3 percentage points of lower growth in the quarter. Overall our exiting of Cleaning Products will have about a $6 million impact this year and another $3.5 million impact next year.

Growth was also impacted by an unusual seasonal pattern in the third quarter of last year when there were significant shipments of new products and inventory build ahead of the normal Q4 peak sell-out season. We are expecting a return to the more typical seasonal pattern this year with new product shipments having a larger impact on the fourth quarter. Based on new product introductions, we are expecting a very robust fourth quarter and believe that sales growth for the year will be in line with our long-term growth of approximately 15% once adjusted for Cleaning Products.

For our Industrial and Print Finishing segment, on a constant currency basis, we saw flat sales for the quarter and margins that were down versus the prior year due to continued fluctuations in resin prices. But for the nine months, comparable margins are still off by 30 basis points.

The Other Commercial segment saw sales growth of 3% adjusted for calendar and foreign exchange and had flat margins.

So in summary, this quarter marked the inflection point in the business that we were expecting. Specifically net synergies savings turning positive. The commencement of payback from computer accessories R&D investment and some favorable effects of price increases. We expect the level of synergy savings and pricing benefit to increase in the next several quarters. However, investment in document finishing for its long-term future and the long-term transition of Europe will continue to drag on results throughout 2007.

Now I would like to provide a few more details about our expectations for the future. With the inflection point having occurred in the third quarter, we still expect to generate full-year adjusted EBITDA roughly comparable to the 2005 level. This will require a good fourth quarter, but you should remember that last year our fourth quarter was weak. We expect to see a strong fourth quarter because of more synergy savings, continued strong computer accessories performance, the full impact from the July price increase, and we also expect the fourth quarter to benefit on the topline from some volume pull-forward in Office Products. Although we also expect a sales volume offset, but this is from unprofitable exited lines.

Although we expect flat adjusted EBITDA, we do expect our adjusted operating income to be negatively impacted due to the additional long-term equity incentive compensation charges this year.

Due to the non-recurring tax credits booked in the third quarter, we are again revising our forecast for an annual effective tax rate. We expect it to be about 24% for 2006. The tax rate for the third quarter was distorted by income in current quarter and large expense in the prior third quarter.

Turning to cash forecasting, in today's announcement regarding the commercial businesses and increased synergy added to the conservative timing perspective for the original integration, we have revised our cash guidance. It is now as follows. Restructuring pretax cash spend for 2006 $30 million, for 2007 $50 million, for 2008 $20 million. At this is a cash impact, accounting charges will generally be incurred ahead of these timings, and we will also incur additional non-cash write-offs.

The total for restructuring is $100 million and represents a $40 million increase of our previous guidance, which we need to spend to generate the additional $20 million of annual cost reduction benefit. Again, an approximately two-year payback similar to previous investments.

Turning to capital expenditure, for 2006 this will now be $35 million, for 2007 $65 million, and for 2008 $50 million. This totals $150 million and represents no increase to previous guidance other than timing change. Our guidance was that we would spend $30 million above our normal planned level of $40 million per annum.

Later timing of both restructuring and capital expenditure accounts for $40 million of our accelerated debt reduction in 2006. The later timing of expenditure is predominantly due to the distribution projects in the US and Europe. The decision to reconstruct our existing Mississippi location pushes much of this expenditure into 2007. The unrelated decision to consolidate European locations onto existing IT platforms before migrating to our Oracle ERP solution pushes this expense into 2007 and 2008. Both projects represent lower-cost solutions, and the savings offset additional investment now contemplated from the GBC commercial business, leaving our total projected capital expenditure unchanged.

The lower levels of restructuring and capital expenditure in 2006, coupled with good working capital management, have enabled us to further reduce our debt. We repaid an additional $20 million in the quarter, bringing the total repayment to over $100 million at the end of the third quarter.

Beyond 2006, as David outlined in today's announcement, we now expect approximately $20 million more annual synergies savings, bringing the total to $60 million per annum by the end of 2009. We do expect to increase investment for the new document finishing group, as well as continued increased spending in Europe. So we don't expect this incremental $20 million to benefit adjusted operating income or margin until 2009.

In addition, the benefits anticipated between 2007 and 2008 are more back-end loaded, due to the lag before supply chain savings come through. These tend to take longer to execute and then require inventory, often increased to provide a safety net to recycle through before the savings appear in reported financials.

We do reiterate our expectation for an exit rate operating margin of about 11% by the end of 2008 with this increasing through 2009 with the benefit of new synergies. Our 2006 cash taxes will still be around $20 million, in spite of our low reported rate. This is a blend of paying non-US taxes and NOLs in the US.

More importantly, for 2007 and 2008, we have also revised our guidance and now assume cash taxes of around 20% and 26% respectively with this rate increasing rapidly towards US rates from 2009 onwards.

We have posted a slide to the presentation section of our Investor Relations website that summarizes a number of these cash items in order to facilitate your modeling.

Finally, before we move to questions and answers, I would like to remind everyone that during the quarter Lane Industries sold more than 4 million shares of ACCO Brands Corporation in the second stock offering facilitated by ours. Following the closing, Lane and its subsidiaries own slightly more than 4 million shares, representing about 7.5% of our stock as of August 31. However, in 2005 Lane entered into a variable forward purchase contract that is expected to be settled on or about November 27, 2006 through delivery by Lane of a variable number of shares of the Company's common stock or at Lane's option in cash. If Lane were to deliver approximately 1.5 million shares of common stock, the maximum number committed by that contract, the remaining shares owned by Lane and its subsidiaries would be approximately 2.6 million or 4.8% of our outstanding shares. Members of the Lane family originally founded GBC and originally received their shares in ACCO Brands by virtue of the spinoff from Fortune Brands and the merger with GBC. We cannot speak for the Lane family, but for those of you who are following this matter, we thought you would appreciate this update.

With that, I will now conclude my update on a busy quarter and turn it back to the operator, and we will be happy to conduct a question-and-answer session. Operator?

(OPERATOR INSTRUCTIONS). Bill Chappell, SunTrust Robinson.

I guess two questions. First, on the commercial synergies, is there -- it seems to imply that most of the synergies will kind of kick in in late '08 and 2009. Is that the right way to look at it, or is it just you expect the full $60 million in synergies by '09?

Well, I think what we are seeing today is we expect the full synergies by the end of 09. I think we also have commented that we are currently out looking for an individual to head this area. We have the broad strategy scoped in terms of specific projects now and as to when they will pay out. I think, Bill, it is a little bit premature for us. But I think it is safe to say by the end of '09, quite frankly, I would expect to see something in '08 and it build. So I think we just have to wait right now another quarter or two, and we will have a much better sense for it.

Great. Then in terms of the January price increase, I think in the past you thought there may be some loss of revenue near-term as the retailers accepted or did not accept certain price changes. What are you seeing there? Is that better or worse than you expected as I imagine you are kind of dotting the I's and crossing the T's on this price increase that is coming in January.

We have not given any change to what we have been saying, which is that in total we see ourselves walking away from $75 million of total business including Perma, and that is $10 million in the Computer category with the Cleaning Products and $65 million in the Office Products, of which $30 million is the Perma exit and $35 million is the half of the $75 million contracts that were under review. And so that has not changed. We have been able to give more color on is what we see the impact being this year versus next year. So there is about a $31 million impact on the 2006 year and a $45 million impact on the 2007 year.

Okay. Great. But so on the January price increase, no real changes. Things seem to be moving as expected?

They seem to be moving as expected, Bill. I would say yes.

Reza Vahabzadeh, Lehman Brothers.

You touched on some of the driving factors, but can you just explain the year-over-year change in gross margin, what were the input costs factors and the synergy cost factors that drove the year-over-year gross margin change? I thought you mentioned raw material cost was 80 basis points?

Yes, what we tried to do was list those out for you, so there are several things that are going on within the -- in terms of puts and takes. The first one is synergy. We said from the beginning that you would see net zero benefit from synergies for the year as a whole with a negative first half, positive second-half. We did see synergies move positive in Q3, but still on a cumulative position as at Q3, we are still negative for the year as a whole.

And what was the synergy for the third quarter?

It is about $3 million of positive for the third quarter. If you then look at what we see with raw materials and with pricing, we recovered about 100 basis points of pricing if you exclude the issue with Europe. And in terms of raw material and freight -- I am quickly looking for my own numbers in order to verify it -- what we saw was that the exact number -- I'm sorry, I'm struggling a little bit with it -- was that we had an 80 basis point impact on raw materials and a 40 basis point impact on freight and distribution costs. And they are cumulative numbers, and therefore, if you look at what we had seen in previous quarters, you will see that we had very little impact on the quarter.

I see. So the 80 and the 40 is sort of year-to-date?

They are year-to-date, and they are both lower than we reported last quarter. Therefore, what you have to understand is the impact on this quarter is very much ameliorating, and that I think is an important message.

Pricing, you said, was 100 basis points, excluding Europe, but what was it including Europe?

Well, Europe was $5 million of adverse pricing, and the reason I called that out separately is because that really is included a onetime event rebalancing on pricing in Europe and should people otherwise confuse that with our attempt to recover raw materials, and so --

The net pricing was probably about flat year-over-year including Europe?

No, it is about .5%. It is actually called out in our price volume schedule.

If I can just add a little bit of color to the price conversation, what I think is a great first step is the July price increase we saw in the US. Because of our back to school efforts, a lot of the back to school goods are shipped on a promotional pricing basis. So I don't think in the third quarter because of prebuying and because of the back to school promotional pricing, we really have seen or experienced the full impacts of the price increase. I think we will see that flow through more completely in the fourth quarter.

And then in the first quarter of '07, I think what you will see is the contract, the limited contracts, we said that have limited our pricing and then effect of the European pricing go into effect. So I really see the pricing not being a --completely and fully being dealt with in the July price increase. It is really a three-quarter event. I think we have taken the first step in the third quarter. I think we will see more in the fourth and more in the first of '07.

I hear you. Thank you. And then as far as inventories by your customers, do you see inventory levels in the next quarter or two being relatively stable and unchanged, or do you see them either being too high or too low, or any particular inventory management actions that you anticipate in the next couple of quarters?

I think in general terms our inventory with our customers are fairly normal. I will call out two differences. One is, in the Computer Products channel, people are going into the quarter with less inventory than they did at this time last year, and that is partly why we anticipate stronger Q4 sales in that category. In Office Products, they are fairly similar. What we saw last year was a big reduction in year-end inventory. We anticipate that actually being the opposite this year with some build of year-end inventory by our customers and then the pull-forward coming.

The one thing I would add there is, it is interesting. We will be having a January price increase, and as such, it is difficult for us to assess right now what the buy-forward impact on that might be for our customers. So there might be a buy-forward event to affect our inventories. That is yet to be seen.

Right. And then the impact input cost outlook for the fourth quarter would be similar to the third quarter, basically neutral?

It is slightly adverse in the third quarter, and I'm anticipating it being slightly adverse in the fourth. But really compared to where it has been, you can call it neutral.

Okay. Slightly adverse. Okay. Thank you.

Derek Leckow, Barrington Research.

Congratulations on a great quarter. Thanks a lot for the disclosure here, too. This is great. I have a question on the price increase. We talked a lot in the past about product innovation, and I want to just be clear when the US Office Products business as we talk about price increases, how much of that is brand-new products coming out that are replacing older SKUs, and to what extent is it increasing the price of older SKUs?

In the Office Products category, it would be totally representative of increasing the price of older SKUs, nothing to do with rebranding and repositioning of the products. So it is very hard for us to measure that as an independent event given the number of SKUs that we carry in that channel. In contrast, in Computer Products, it is the complete reversal.

So much of our Computer Products revenue increase, and margin is absolutely driven off new products. I just want to take a minute to comment on how pleased we are with the new product development area. You know, we have taken this year to really invest heavily in the new product development area. We have increased our SG&A spend by significantly increasing, like the doubling of the number of folks that we have in that area in Kensington. And I think we are very pleased at what we are seeing in the fourth quarter or anticipate what we are going to see in the fourth quarter I should say in terms of really bringing that business in where we expect it in the high-teens kind of growth and with quality of earnings. So to me this is one of those first examples you can really point to that growth investment in our SG&A is really now turning into volume and margin.

So as far as this year is concerned, David, can you give us the amount of revenue from new products and then also your outlook for 2007?

Well, unfortunately one of the misfortunes we have with half our business still conducted through GBC's computer systems is that we are unable to quote that metric. What we can tell you anecdotally is that for the ACCO business it is still running at around 30%, which is where it was. For the GBC business, it is substantially below that, and that is the number that we are really ramping up over the next couple of years to bring it up to the kind of active metric. But I cannot technically measure it until I get more on the ACCO system.

Okay. And that completion of that project is scheduled for when?

In North America we have moved across. So, on a go forward basis, I can measure in North America The problem is Europe where we don't integrate systems until 2007.

Okay. Just the question on your balance sheet. In the outlook for your debt balance, you are doing a great job there. Obviously deleveraging now and we see that probably continuing even stronger in Q4. Could you give me your outlook for your debt balance at the end of the year and then also what you see for 2007?

Yes, I think with the revised guidance we have given, obviously one of the things that we are communicating is that we have significantly more restructuring in capital expenditure now in 2007 than we originally had forecast. And so to the extent we pay down debt in the fourth quarter, what we're actually going to do is prepay the 2007 mandatory debt reductions in advance because largely what you're going to see in the fourth quarter is what I will call a timing event in that to the extent we are generating additional cash in the fourth quarter, we're really putting cash pressure on the 2007 year. So I do anticipate debt paydown in the fourth quarter, but really the way I am viewing it is more it gives us the capacity then to have that higher capital and restructuring spend in '07.

Okay. And then just opportunities on acquisitions, I wondered if you could comment on that, and do you think that we will see any acquisition activity in 2007?

You know, I don't mean to sound boring, but our first focus here is to pay down our debt and develop financial flexibility. We in my comments this morning I did mentioned related to the debt paydown that a strong balance sheet is a priority for us, and that will give us financial flexibility to do things like grow.

I believe that we need to put our infrastructure in place. I think we're making great progress, and I'm very pleased with the progress we're making. I don't really have too much of an appetite to add additional volume until we really believe that we have ticked off a lot of the important fundamental infrastructure things, like the building out of Booneville and putting in place the IT systems. My guess is that as we move forward into the new year and beyond that we will be positioned to do such things.

Okay. Great. I see the margins are heading in the right direction, so good luck and congratulations.

Bill Schmitz, Deutsche Bank.

This is a new record, a 36-page press release. I think you guys need to start handing out some binders to jump-start volume there.

Well, I think you're going to buy them, Bill. You know, Bill if I could just kind of -- we feel the same way. The unfortunate reality, as you know, there's just a lot of real good things going on in our business that we wanted to share with you.

No, no, it is definitely appreciated. Just on the long-term equity compensation, can you just kind of highlight what drives that and the numbers for the year and for next year?

Yes, in terms of long-term equity compensation, the charge is about 20 million for the current year, and it will be very similar next year and the year after. We did have a large inaugral grant associated with the spinoff. And so for a three-year period, effectively what you have is a bit of a hump in that number. And as you get beyond 2008, that number will actually reduce I would anticipate as we get to a more normalized base, and a bit like a snake swallowing a mouse, there is a little lump that has to work its way down the snake over a period of time.

Got you. So is the fourth-quarter number roughly similar to the third-quarter number?

Yes, it will be, and it will be fractionally higher because obviously assuming we make a new grant this year, you get a little tail pickup in the fourth quarter that you did not get.

Great. Is it performance-based?

What we have is a composite mixture last year where we had performance shares and we had options, and we had restricted stock, and we would anticipate a composite base going forward.

Okay. Got you. So if you hit your number this quarter, it will not accelerate that much at all?

Really not because it is a long-term number not a short-term number.

Okay. Great. Thanks very much. Were there any costs associated with the offering in this quarter's numbers?

Yes, we charge that as a non-recurring item.

Okay.

And really I regard that as an item that is associated with a deferred cost from the spinoff.

Okay. Great. And then you sort of touched on new products, but can you just give us some color on what you're working on? What are some of the big new products launched for the holiday season?

If you want me to speak directly to the holiday season, I think the principal focus there has been related to our Computer Products business. Those products tend to be sort of more, how will I say it, gifty, rather than sort of mainstream what you might see in an office. There is a host of things that we have in the mill, and you know what, I would just kind of rather let that be announced through the -- (multiple speakers)

-- if you look at those, you've got go on the Kensington.com website.

Yes (multiple speakers)

You will see they have a new products button (multiple speakers) easiest way to follow it.

And that is a good -- if I speak to it, I'm sure I will be saying things that I will be sort of leading the cat out of the bag I should not be doing.

Got you. So is there any one product you think that is going to really jumpstart this accelerated growth in the fourth quarter or is it mixed?

No, it is very broad. It is mixed. I think it is really building the business.

The bigger issue actually is timing. What we had last year is a new wholesaler who supplies one of the major customers for Kensington who pulled all the new products in the third quarter, and this year we're anticipating that event in the fourth quarter. And I would just say they were new to the industry, which is why they -- if you read our third-quarter press release from last year, you will see we spoke about an unusual 27% growth in Computer Products. So we are just up against a comp that was made up of a large demand, which was really satisfying fourth quarter with third quarter, and this year is return to normal.

Okay. Great. And then just in terms of gross margins, that is sort of 150 to 200 basis points of expansion. Is that a number we should look at next quarter and going into '07 as well?

Yes, I mean clearly we have to get our gross margin expansion coming through. That is where fundamentally you see some of the synergy savings and some of the pricing impacts. So you will or you should anticipate the fourth quarter having similarly strong gross margin.

One of the other things you should anticipate in the fourth quarter is seeing some lower SG&A costs, and that is for two reasons. One, you get volume-metric leverage, and two, that is where we are also anticipating some of the synergies in the fourth quarter.

Okay. So the $3 million in synergies this quarter, are most of those in cost of goods sold, or is there some in SG&A as well?

They are actually in both, and the real bit to understand with synergies is we have a larger cost-saving number, but we have done a lot of reinvestment. So I prefer to look at synergies as a net number, and so we did not move a net positive in the quarter as a whole. But we are still net negative year-to-date, and obviously therefore to square that and get back to what we have forecast, which is that we will be kind of flat to slightly up for the year, we need a bigger net synergy number in the fourth quarter.

Okay. So what was the net cost this year then? If it was $3 million of savings this year, is that net or is that gross?

That is net. All right? And it is the right way to think of it because otherwise we confused everybody.

Right. But can you just give me the two gross numbers though?

Well, in order to square the year, we're going to need a net positive $6 million in the fourth quarter as opposed to the $3 million in the third quarter. So about $3 million of more synergy flowing into the fourth quarter on a net basis.

Okay. But you don't want to break out sort of the gross cost versus the growth?

I don't think it is helpful to people. We have spoken about some of the subelements of it, like the $8 million investment in Europe and things like that, but I think it confuses if you do that.

Okay. Great. We don't need anymore confusion.

I agree.

Rick Weinhart, BMO Capital Markets.

The first question is on the back to school season in particular. We had some pretty strong reports from the office superstores and some of the distributors. I'm wondering is your sense that I know you have the initial orders that obviously have gone through, but can you remind me on the refreshing and restocking that you see after that? Given some strong numbers they have been reporting, would that flow through to your fourth quarter as well?

Let me just, first of all, sort of speak broadly about our back to school. I think our back to school was quite reasonable, but I don't think it was as high as some reports. I have seen some people reporting that it was in the high single digits. It certainly was not like that. I think our back to school was more in line in the mid to lower single digits, which is what we think is a more normalized level. We had pretty good fulfillment take place in the second quarter, as well as the third quarter. You should remember that a lot -- to be able to get products in the stores and in the locations when they need to be, we really need to be shipping a lot of what we did in the second quarter. Our supply chain is now set up that if we do that, we do that pretty well.

So what others might be reporting is something that is a bigger number for the third quarter. We tend is get our stuff out pretty quick, so it's a balance between second and third quarter. That would be the first comment I would make. And again, I would just say lower single digit sort of being a typical kind of position for us. I think that is pretty similar to what folks have seen broadly. I should not speak for others.

Yes, what tends to happen in the fourth quarter is you build up for the next seasonal peak, which is kind of back to college and Christmas for the Computer Products channel, and it is really year-end calendar change which impacts the Office Products channel. Things like the change in the calendar, the tax code year and all that does drive a lot of consumption for Office Products with the change in the calendar. And so it's a different event that drives the fourth quarter, rather than back to school, trains or --

Okay. Great. That is helpful. Also, I'm wondering if in your conversations with your customers looking out to '07, are you getting any kind of feedback you can give us about expectations regarding just macro -- running macro looking at the economy, what they expect next year to look like?

I can share this with you, one of -- the principal macro indicator we look at is white-collar employment. We really see that being pretty level, pretty stable sort of here in North America, running at 1.8 to about 2% kind of growth. In Europe, it runs slightly less, perhaps 1.1 to 1.2, something like that. So that is really what we look at in terms of sort of a leading indicator.

I don't think retail activity is too much of a good indicator here. Again, so much of our product -- you must remember that probably about 70% of our products we believe get used in some form or another in a commercial or business type application. Now that could be a home office, but still a business type of application. So business to us is the best possible reflector.

Okay. And also, on the fourth quarter, someone has just asked a question I think about gross margins. Remind me but I think the fourth quarter is your seasonally strongest quarter?

Traditionally.

Traditionally, yes.

And a good way to think about the fourth quarter almost is to go back and look at the fourth quarter of 2004 where you will really see that the 2005 fourth quarter was seasonally very weak compared to normality. (multiple speakers). We are anticipating a, let's call it a -- the fourth quarter being the most robust quarter that we have.

Right, okay. On the pricing, I believe last year you had some -- you mentioned some destocking from customers in Europe, and I'm wondering if we're trying to think about the impact from customers perhaps pulling forward demand because of the price increases that they are expecting in January. If we flip that, I think you had a negative impact of a couple of percent I think last fourth quarter -- remind me if that is correct -- but would you expect to see that reversed out? And if customers decided to pull-through for their demand another 2% being added in, is that the way to think about it?

Well, first of all, let me just tell you why we saw the destocking occur in the fourth quarter of last year. In Europe we had a price reduction go through last year. And so people obviously don't buy ahead of a price reduction. They defer orders. This year we are having a price increase in Europe, and therefore, we anticipate not just a return to normality, but go back to a positive.

In the segment of the US, we have this price increase going through in January. And so what we are anticipating this year is to see overall people if they do anything pull forward orders.

The other issue last year is that people were missing some volume rebates, and therefore, they chose to buy down rather than buy up, which is their normal route in the year. So yes, we would anticipate the fourth quarter of our year being quite robust in terms of ongoing sales. The big issue for the fourth quarter, which I tried to call out in the conference call, is there is about $20 million of our sales that won't be there because of the Perma and the other business that we have exited. So you need to allow for that, but again remember, it was zero margin impact on the business.

Okay. Great. And on the commercial business, your operating margins in general look great. They were better than I was looking for. But the one number, which is a little bit lower, was the Commercial Industrial and Printing, and you talked about resins impacting that business. I'm wondering, can you talk a little bit about what your ability is there to adjust your pricing on that and if when we could expect to hear a little more about that?

We pretty much can flow pricing in that category. What you tend to get caught with is what I will call the inventory imbalance that you sometimes have to -- effectively you have a bit of a lag if you have inventory on hand, and you have to cycle it through your plant.

So what happens is that people can sometimes get spot pricing of resin, which is lower than you are able to get on an ongoing basis, and then they dump that effectively in the market with cheaper pricing, and you end up having to follow. So you get these perturberations in the pricing. One period you might make a super profit, and one period you might make a lower one. So that category follows pretty closely on about a three-month lag of what I will call raw materials, and you get fluctuations in strong second quarter, weak third quarter. Don't worry, it is kind of normal.

Okay, I see. So the pricing is actually adjusting real-time. It is just the inventory that is there is a lag?

Correct.

Great. And then the last question I have is just on the commercial -- the new synergies that you're looking to obtain, I'm wondering if you can talk a little bit about what some of the steps are? I'm assuming it is going to be similar to what you have done with the Office Products division?

Well, I guess the comments that I would make is this. Really what we have done is we have gone to the people who have been involved in those businesses long-term at GBC, and we have asked them to work with outside consultants to really craft the direction. So I'm not sure that it necessarily goes totally in sync with Office Products.

I would say with what we believe is that we have comingled businesses. We're separating those out. We are focusing much more around technology now, which is very similar by the way to something at Kensington. And so I just think there will be much more focused investment, and we will see good things flow from that.

Okay. But the actual savings, will that be flowing more from cost reduction or margin enhancement on the gross margin side do you think?

I think in the near-term it will tend to come from cost. I think in the longer-term it is actually growth, and it is exactly again what we have seen at Kensington. It is very analogous there. At first we took out cost. We then invested in the development and in progressing the technology in new products, and that flows through into increased revenue and margins.

I think one of the important things to understand is we need to invest in that business. And so in the short-term what we're going to do is to use the synergy savings that we're able to get quickly as the foil to reinvest, and that is why we have said don't wait -- don't look for this to drop through to the bottom line until 2009. Because you've got this reinvestment cycle we're going to go through in that category.

Sure. It makes sense. Okay.

Good. Thank you for your questions, Rick.

Gary Balter, Credit Suisse.

It is actually Seth Fagen for Gary. It think Gary might be on, but he had a bad convection. We had a couple of questions. A lot of them have already been answered. But if you could give us some more color regarding the synergies ramp. Obviously you said about 3 million this quarter and another $6 million in the fourth quarter. Should we expect the ramp to be significantly higher on a sequential basis from there?

Well, effectively what you will see is that the exit rate in the fourth quarter really runs into the first quarter, second quarter, third quarter. So synergies are really a building event from here on out.

Now one of the things that we will be doing is taking some of those synergies through '07 and investing them to get this document finishing group together and get that functioning in a more positive way to get long-term growth. And so that will be a little damper as we run through '07 in terms of what otherwise would be a more strongly building story. And that is why I have tried to indicate to people to anticipate a stronger flow through in 2008 than they should in 2007.

Okay. Fair enough. In terms of the integration of the US to the IT systems, is that now complete?

No, what we have done is we have merged in North America, and we have merged only the front end in North America. What we still have to do is deal with what I will call the manufacturing and warehousing side in North America. The reason we postponed that is obviously it was not worth dealing with that until you had the final footprint in place. And then in Europe, that integration is all scheduled to take place in 2007 onto old systems and then migrate the whole new format footprint business during 2008 onto the Oracle ERP system.

Okay. That is understood better now. Moving onto Europe and the price comparison, when do the price comparisons ease as you have reset the pan-European pricing?

That event happened in January, but we saw some of the program rather than the price aspect impact in the fourth quarter. So Europe will be an easier fourth-quarter pricing comp for us, even though it will still be negative. It will be less negative in the fourth quarter, and then particularly in January that effect comes through.

Got you. And then finally, obviously it is a small piece of the business, but other commercial, how should we be thinking about that in the fourth quarter? Is that business set to perform well? Are there any things that might hurt the comparison?

You should still view that really as a business that we have not done anything too to make it grow at this point. You're seeing a little bit of growth there, but you should not really factor that in because it is really about just having the salesforce in place for the full year. Fundamentally that business is a business that needs a new product engine, and that is what this whole announcement is about.

Okay. So you would expect the top line to be a little bit lighter than last year and margins to be weaker?

I would assume very similar to last year.

Okay. Thank you very much and good luck.

Gary Brody, Akita Capital. (technical difficulty)--.

Ladies and gentlemen, that concludes our time for questions and answers today. I would like to turn the call back over to Mr. David Campbell for any closing remarks. Please proceed, sir.

Thank you, operator. I guess in conclusion I would just like to reiterate my enthusiasm for the business. I think we have had a terrific quarter. I think there's just a lot of very good things going on in our business, and Neal and I are delighted to be able to share a lot of those with you today.

So again, significant progress in the quarter. Thank you very much for your time. We look forward to further conversations next quarter.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes today's presentation. You may now disconnect.