Altra Industrial Motion Corp (AIMC) 2014 Q2 法說會逐字稿

Greetings, and welcome to the Altra Industrial Motion second quarter 2014 financial results. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, David Calusdian of Sharon Merrill. Please go ahead.

Thank you, Sachi. Good afternoon everyone, and welcome to the call. With me today are Chief Executive Officer Carl Christenson, and Chief Financial Officer Christian Storch. To help you follow management's discussion on this call, they will be referencing slides that are posted to the AltraMotion.com website under Events and Presentations in the Investor Relations section. Please turn to slide 1.

During the call, management will be making forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements are inherently uncertain, and investors must recognize that events could differ significantly from management's expectations. Please refer to the risks, uncertainties, and other factors described in the Company's quarterly reports on Form 10-Q and annual report on Form 10-K, and in the Company's other filings with the US Securities and Exchange Commission. Except as required by applicable law, Altra Industrial Motion does not intend to update or alter its forward-looking statements whether as a result of new information, future events, or otherwise.

On today's call, management will refer to non-GAAP diluted earnings per share, non-GAAP income from operations, non-GAAP net income, and non-GAAP free cash flow. These metrics exclude certain items discussed in our slide presentation and in our press release under the heading Discussion of Non-GAAP Financial Measures, and any other items that management believes should be excluded when reviewing continuing operations. The reconciliations of Altra's non-GAAP measures to the comparable GAAP measures are available on the financial tables of the Q2 2014 financial results press release on Altra's website.

I will now turn the call over to Altra's CEO, Carl Christenson.

Thank you, David. Please turn to slide 2. Our second quarter revenue and earnings growth were quite strong compared with a year ago. Revenues increased 19% from the second quarter of 2013 while net income rose 20% from the year-ago period. Net of acquisitions, net sales were $193 million, up 6% from Q2 2013. Non-GAAP earnings grew 20% to $13.1 million, or $0.48 per share.

Given the robust top line and the operating leverage we've generated through our strategic initiatives, our earnings performance would have been even stronger but for costs associated with two significant supplier issues and unusually high medical expenses. These issues adversely impacted earnings by approximately $0.03 per share.

We resolved the supplier issues during the second quarter and expect a lower impact to our third quarter profit from these issues. However, the increased costs from the high medical claims will continue into the third quarter.

Please turn to slide 3. Demand in most of our end markets was up in the quarter when compared to the prior year. Let's begin with our distribution channel, which is predominantly made up of sales of aftermarket parts and original equipment parts for small OEMs.

In the second quarter, distribution sales were up nicely year-over-year. The increase was across a broad range of our distribution. In Turf and Garden, where we have a significant share of the market, we experienced our best quarter ever in terms of sales. Growth accelerated during the quarter in part because of recent rebound in US housing starts. Last year, we experienced much better than normal demand in the third quarter as our customers extended their build seasons. Based on current schedules, we unfortunately do not expect that to repeat this year.

The Ag market began to slow during the second quarter. This market has been one of our strongest as we have ramped up production on new programs. However, the outlook for Ag is for overall demand to continue to slow.

Transportation was about flat when compared with last year. In the materials handling market, forklift and elevator sales were very strong compared with the second quarter a year ago, due to ongoing projects in Europe. Meanwhile, the crane and hoist markets rebounded after a long soft patch, while demand in conveyors continued to be weak.

Turning to our late-cycle markets, energy overall was again very strong, led by higher demand in oil and gas and wind. Drilling rig counts, permitting for future drilling, fracking activity and directional drilling are all up compared with a year ago. Power generation revenue improved slightly sequentially as shipments were up from the first quarter.

In the metals market, sales were up significantly from a year ago. We said last quarter, metals demand appeared to be reaching a bottom and the performance in the second quarter seems to confirm that assessment.

In contrast, mining OEM activity continues to be very weak. Sales were down both sequentially and from Q2 of last year. While the aftermarket is stable, we see no catalyst for improvement for the original equipment side of the business.

In aerospace and defense, sales were down year-over-year. The overall defense market remains weak; however, we continue to work on some significant projects that we believe are vital and stand a good chance of being funded. Commercial aerospace continues to be strong.

In terms of geography, North America and Europe were both up mid-single-digits from a year ago while sales in most of Asia were up low-double- digits. Australia was down year-over-year since most of our business is related to mining.

The outlook for the global economy is quite mixed and we remain cautious about international sales in the near term. With that, I'll hand the call over to Christian, then close with a discussion of our strategic initiatives.

Thank you Carl, and good afternoon, everyone. Please turn to slide 4. We had a solid quarter, reporting an increase in net income of 20%. On an earnings-per-share basis, we are reporting $0.48 on a non-GAAP basis.

As Carl mentioned, two supply issues resulted in increased cost of goods sold and SG&A. We also experienced a significant increase in year-over-year medical costs. Combined, these had a negative impact on EPS of approximately $0.03 in the quarter, and we expect that these issues would also negatively impact EPS in the third quarter.

On the top line, foreign exchange rates had a positive impact of approximately 130 basis points, while price added 120 basis points. Net of acquisitions, sale increased 6.4% year-over-year to $192.7 million. Net of acquisitions, North American revenues increased 7.6%, while European revenues increased 5% year-over-year. Sales to Asia-Pacific and other geographies were up 1.8%.

Interest expense was $3 million, up $300,000 from the prior year, due to the financing costs related to the Svendborg acquisition.

During the quarter, the average price of the Company's common stock exceeded the conversion price of the convertible notes. This resulted in an additional 705,000 shares being included in the diluted earnings per share calculation, causing a $0.02 reduction in diluted net income per share.

The $0.02 reduction in diluted net income per share compares to a $0.01 dilution in the sequential first quarter. We recorded a tax rate of 31.7% during the quarter, compared with a tax rate of 31.3% in the second quarter of 2013.

Slide 5 is a reconciliation of our non-GAAP measures. Please turn to slide 6.

Our balance sheet remains strong. Book equity was $287 million and our cash balance was $69 million.

Slide 7 reviews our working capital performance. Our inventory trends continue to improve as we are gaining traction with our operational excellence strategy. Capital investments during the quarter totaled $5.3 million, and depreciation and amortization was $8 million.

Please turn to slide 8, and our guidance. The Company is maintaining its sales forecast in the range of $800 million to $825 million for 2014. However, given the additional costs we incurred primarily stemming from the aforementioned supply issues as well as the higher-than-expected medical costs and the expected continued dilutive effect of the convertible notes, we are lowering our EPS guidance for 2014 to the range of $1.75 to $1.85. We expect our tax rate for 2014 to be in the range of 31% to 33% before discrete items. We also expect capital expenditures in the range of $28 million to $30 million and we are revising our depreciation and amortization guidance to be in the range of $32 million to $34 million.

With that, I will turn the discussion back to Carl.

Thank you, Christian. Please turn to slide 9. Let's talk briefly about some of the strategic initiatives we're working on. We feel very good about the traction we are seeing from our lean efforts. In Columbia City, Indiana, for example, we are consolidating three locations into one newly-leased facility and we expect to have moved the majority of the equipment early in the third quarter. Production should be ramping up in the first quarter of 2015. The product flow that will be achieved as a result of the consolidation is expected to have a significant impact on inventory, quality, delivery and cost.

Our various operational excellence activities are yielding lower inventory levels and better turns. The inventory reduction contributed to our record free cash flow. We are equally excited about the reduced lead times we are able to promise our customers. We believe this will provide us a strategic advantage. It is a real testament to the dedication and hard work across Altra that our lean initiatives have been so successful.

Our SAP initiative is progressing nicely. We have two sites remaining for implementation, one of which will be completed in Q3. The final site in France is scheduled for implementation early in Q4.

Our profit improvement initiatives are right on track. Pricing is contributing to margins in line with our plan, and these targeted increases should continue to contribute to our performance going forward.

We officially broke ground for the new construction in Germany for our Bauer business. The new factory addition will enable us to consolidate five Bauer facilities into one, and will be completed by the end of this year. The office building is expected to open in May 2015.

The Svendborg integration is in line with the projections we gave at the time of the acquisition. Svendborg continues to be accretive to the bottom line and is on pace to meet our initial target for earnings accretion of $0.10 to $0.15 per share for 2014.

Turning to emerging geographies, our new plant in China is now slightly ahead of plan, and we are quoting an increasing number of orders there. We have also moved some production work to the facility which has helped improve its performance. In Brazil, we are localizing production of some Altra products in order to both meet the needs of our current customers in that country and to generate increased sales in Brazil.

In terms of M&A, our balance sheet is very solid and the market for potential acquisitions is starting to open up after being relatively thin earlier in the year.

To close, we are very pleased with the results we are seeing from our initiatives to grow revenues and expand profit margins. Many of our markets are performing well, although we are cautious about the global economy in the near term, especially in Europe where growth is still very choppy. And finally, we remain excited about the number of opportunities we have.

Now we'll open up the call for Q&A.

(Operator Instructions) The first question is from Matt Duncan of Stephens Inc. Please go ahead.

Good afternoon, guys.

Good afternoon.

So the first question I've got is on the guidance, really. Looking at the sales guidance, you guys kept that unchanged; and I don't know if you pay attention sort of where estimates are, but you actually beat estimates pretty nicely in the quarter. And the consensus for the year was already above your guidance range. That implies that the back half estimates are too high.

Are you guys seeing a slowing of revenue relative to what you had from a growth perspective in the second quarter? Is that the reason to sort of leave guidance unchanged, or rather are you just being conservative a little bit here because of some of the choppiness, Carl, that you mentioned?

Yes, I think it's -- you know, there's always a big question mark about what happens in the summer time, particularly in Europe. And as people have vacations, and plants shut down for maintenance activities -- so we're being cautious. I think when we look at Europe, there was probably a little more enthusiasm at the end of the year last year than there has been lately on the economy there. So, we're just -- we're very cautious about what we see. You know, there's bad news in China. The good news is North America; compared to last year, I think the sentiment is much better. So --

Okay.

We just couldn't see any benefit to taking it up.

Sure. How much of a growth headwind do you have in North America from the Turf and Garden business being really good in the 3Q last year, and it sounds like it won't be as good this year?

How much of a growth headwind do we have in North America?

Yes, I guess I'm looking at the strength that you had in Turf and Garden in the 3Q last year. It sounds like that's not going to repeat this year. How much do you think that takes out of growth by not seeing that repeat?

You know, we don't typically get into specific amounts by end market and what's going on in each end market by a specific amount, so I'm not going to go there. But it's meaningful, but we hope to be able to offset that with some other areas, some other markets that are doing well.

Okay, and then on order intake, what kind of growth rate are you seeing in order intake right now? Is it similar to the 6% organic growth you had in revenue in the second quarter, or is it tracking a little lower?

And again, we don't talk about bookings, per se, and part of that is because a lot of times with some of the big OEs, we work with production schedules and they give us an annual schedule. And then we drop in the orders each week for what we're going to deliver the next week, and it's not a contractual commitment until we do that. So, we have very short lead time and visibility to the order, so it's difficult for us to talk about the order rates.

But I'd say in general, some of the schedules are probably softer than what they were, schedule increases are probably softer than they were at the beginning of the year.

I would also add, Matt, that we at this point now believe that we will see more typical seasonality whereby second half revenues are 48.5% to 49%, which we have experienced typically. We get a better sense now for how Svendborg behaves, and I think it fits right in line with our normal seasonality that we have experienced in the past.

Okay Christian, that helps, and then last thing for me on the EPS guidance cut. How much of that is from the higher healthcare cost? I'm trying to see if we can maybe bifurcate a little bit the higher healthcare costs versus the two supplier issues that hit you here in the second quarter.

Let me explain a little bit what happened on the healthcare costs. It's actually related to medical cost, so not worker -- as opposed to workers' compensation.

Sure.

We have experienced a significant increase in what we call large medical claims, which we define at claims that exceed $50,000. In a typical year we have two, maybe maximum of five of these claims. We hardly ever see anybody hit our stop-loss of $250,000.

We have seen this year, 12 of these large claims with quite a few hitting the stop-loss. Since we're self-insured until that $250,000 stop-loss, it has really had a significant impact on our medical expenses and explains a significant portion of the sequential increase in SG&A.

If you look at Q1 and Q2, SG&A is up $2 million, in that neighborhood. The biggest piece of that is related to these medical costs. We think that trend will continue, but hope that it will start to soften as we go approach the end of the third quarter into the fourth quarter, but we can't be sure.

Christian, that --

The supplier issues -- yes?

I was just going to say, is that something you accrue for, or are you recording this so the 12 significant claims, have you already recorded all the expense from that or is that accrued through the balance of the year?

You actually expense it as you go, with the exception of what is referred to as the incurred but not reported. So, you have had people go and see the doctor and incur expenses, but they're not reported to us with a time lag of a month or two.

Okay.

And for that piece we accrue, but other than that, it's expensed as incurred.

Okay, so the reality is you may not see healthcare costs continue at this second quarter level, but you're taking the conservative approach and assuming that they will, to play it safe, is what it sounds like.

Yes, we have to believe that some of these claims will continue to develop, that they're not done with treatment and so forth, and therefore that this trend will at least continue for another three months.

Okay.

So, that's a meaningful part of the reduction in the guidance. I think the second part in the guidance is that the convert has become more dilutive than what we had anticipated at the beginning of the year, and then the third part is the two supplier issues which were fairly significant in terms of EPS impact.

Okay, all right. Thank you for all the color.

All right, thanks, Matt.

The next question is from John Franzreb of Sidoti. Please go ahead.

Good afternoon, guys. Back to the revenue guidance, if I look at the first half, roughly 3% organic growth in the first quarter, 6% in the second quarter, based on the midpoint of your guidance stripping out Svendborg it suggests that maybe organic revenue will be flat to down in the second half of the year. Am I doing the math properly there? And if so, what's the biggest driver of that kind of a decrease, year-over-year?

Yes, I think your math is right that it would assume flat to slightly down. One big driver is we have become a little bit more cautious in respect to Europe.

Just the normal seasonality.

And it's the normal --

That shouldn't come in -- seasonality shouldn't come into play year-over-year.

Yes.

So last year it was the -- if we get back to normal seasonality, we had a very good third quarter last year. And I think you'll see that, and I think that was better than we expected last year, and abnormal from a seasonality standpoint. So, I think part of it is that we get back to a more normal seasonality.

Okay, and you mentioned these one-time costs. Assume they go away. Are we still on target to hit that EBIT margin by the end of 2015 when you start rolling in the pricing initiatives, the SAP benefits, some of the cost savings of new facilities? Is that still intact, or is something structurally changed in that longer-term outlook?

If I go to the four initiatives, I think we're on track in terms of strategic pricing. We actually, we've seen 120 basis points year-over-year on price in the second quarter, 50 basis points of that is related to strategic pricing in the first half.

Bauer is doing better than last year. Our losses in China have come down by about $300,000 in the first half of this year.

SAP is moving to the right a little bit. We thought we were going to be done by the end of June, but we're taking the two most complex sites live, so one implementation has slipped into early Q3, the other into early Q4. So, we're (multiple speakers) see that.

Okay.

But next year, we'll have that benefit, so by 2015 we should -- I mean, we're still on track in terms of these major initiatives.

Right. Okay, perfect.

No, no change on the initiatives.

Great, and one last question. Just could you remind me what the supplier issues were, and when do you expect them to be fully resolved? Because it sounds like they're carrying into the second half.

Yes, so there was two issues we had, and one of them was related to a raw material situation where a sub-supplier processes raw material and it wasn't evident to us until it got into the finished product that there was a defect in it. And that was fully resolved in the second quarter. The issue is behind us.

There might still be some flow-through of expense, because we've got -- we had to expedite some parts through, we had to work overtime, we've got an outside source doing some subcontracting for us to help us catch up. So, there will be some additional costs flowing into the third quarter, but the issue is resolved and behind us.

And it's pretty much the same thing on the third one. That was actually a component that we buy and it was a supplier in Taiwan that had a quality issue, so we had to go to a supplier in Europe that had made the product for us before and we had to pay higher prices, and then we had to airfreight the parts to our assembly operation in China. So, that was -- and that additional cost will flow into the third quarter some.

But again, that problem has been resolved so they're both resolved, but some costs will flow into the third quarter.

Okay great, that's good news. Thanks for taking my question, guys.

Thanks.

The next question is from Mike Halloran of Robert Baird, please go ahead.

Good afternoon, guys. So, what were the core incrementals if you exclude these one-time items? So what were the actual incrementals on the volumes?

I think we've seen incremental of 25% to 30% if we exclude those one-time items.

And is that kind of consistent what you would have expected the pull-through to be at this point?

Yes, I think that's what we've said in the past, that that would be the kind of pull-through. We looked at it that it would have been a really good quarter internally, if we had not had those issues.

That makes sense, and then on the revenue progression side I know you mentioned the orders, and how some holdbacks are occurring. How did the revenue progression work through the quarter? Did you see in the actual revenue any slowing as you worked through the quarter? Was there some improvement here, or was there just more stability as you worked through the quarter and into July, here?

I think from a shipment standpoint, it was pretty good. I think as we get into the summer months, the incoming orders, we have lots of our big OEMs in the first half of the year give us blanket orders, etc., for the year. So, it's probably, feels like it's slowing down a little bit for the summertime.

But not anything different from what you would have expected a normal seasonality curve to look like?

No, probably not anything other than a normal seasonality. Last year was different where we had that really good third quarter, and it was in Turf and Garden, but it was also in a couple other markets, really, really were quite strong last year.

Makes sense. Thanks for the time, guys.

The other good news Mike, you haven't asked it yet, but on the distribution side, the distribution business has picked up a little bit. I think if -- when we look at the numbers that we're doing with most of our general line industrial distributors, it's pretty good.

Yes, I guess I'm just like everyone else on the call and just trying to triangulate into why the downside in the back half of the year from a guidance perspective relative to kind of what we thought the expectations were that you were lining out last quarter, and you know, you can obviously understand some of the mining commentary, some of the Ag commentary, and even the order acceptance.

But it certainly seems like you're pushing revenue a little bit lower than maybe the core trend that you're actually seeing would imply. I don't know how you necessarily respond to that, but I think that's what the issue people are trying to triangulate to here is.

I think as Carl mentioned, last year we had a very strong third quarter with a very strong Ag and Turf and Garden market in the third quarter. We don't think that that will repeat.

Second, we do see some areas in Europe, some slowdown. Others are still doing well, but particularly mining is really hurting in our European business. We see continued disruption in our sales in Russia. Bauer sales in Russia are down 30%. Just as an order of magnitude, those are headwinds compared to last year. We feel reasonably good about North America, but we don't think that 7% growth will continue in the second half, that that will slow down a little bit, but that's still positive growth.

Those are kind of like the framework in which we operate here.

The biggest uncertainty -- we know Turf and Garden is going to not repeat the third quarter, and I think the biggest uncertainty is in Europe and in Asia, is what's going to happen there. And it's just choppy. I mean, the reports we read from some of the large industrial companies in Europe are there's some uncertainty there.

That's more, that's helpful. I appreciate the time, guys.

Okay, thanks Mike.

The next question is from Jeff Hammond of KeyBanc Capital Markets, please go ahead.

Hey, good afternoon, guys.

Good afternoon.

So, Svendborg I think you said is going well, and it's still set to be accretive. Is that still within that $0.12 to $0.15 range that we were thinking about before?

$0.10 to $0.15 is what we guided to, and that is still inside of that range.

Okay, and then from your perspective as you look at the Bauer restructuring initiatives and strategic pricing, are those hitting your targets as well?

Strategic pricing has added 50 basis points, year-to-date.

And the Bauer restructuring, the restructuring activities are going well. I think with -- they're behind a little bit on the top line, on the sales, so they had a nice improvement in their operating margin but it was impacted a little bit by not getting the sales that we were hoping to get.

So, as compared to last year, Bauer's performance is up in a meaningful way. The top line is also slightly ahead of last year. The disappointment there is the Russian market, and that's why they're probably performing below our expectations for this year. But year-over-year, they're improved.

Okay, and then the only thing I'm confused on, on the guide -- so it looks like you took the midpoint down 12.5. I mean, it seems like this supplier and health medical issue is maybe $0.03 this quarter and another $0.03 next quarter? Is that the right way to look at it? And then $0.05 for the convert?

Yes, right.

Is that basically the guidance revision?

That's basically what it is.

Yes.

But I mean, didn't we have $0.05 last quarter built in, or are we just not finding ways to make that up? Or --

So, I think two things, last quarter --

The share count issue is kind of built in.

Last quarter, we assumed $0.04 for the year. And now, and it's -- you know, it's a rounding thing. I think it came out to be $0.018 cents, or something like that. With stock price continued to be where it is, it was $0.02, so in our mind we cannot make that up while we had hoped that we can make up the $0.04 that we had in the initial guidance.

But now, with the supply issues, with medical, with the things we're describing, we just don't -- we can't make up for the dilutive effect of the convert. So in our mind, that is $0.05 or thereabout, and then we add about $0.06 there, thereabout, for the medical issues and the supplier issues. That's essentially it.

Okay. And then distribution, I mean, it seems like you were still pretty downbeat about that, when you last reported. What changed, when did it kind of inflect, what's kind of the tone into 3Q? Does it feel sustainable?

It's not -- I mean, there was really no clarity there on where they're seeing it, but it's -- I think if you read the general parts, Motion had a good quarter. We had a good quarter across a broad base of our distribution. There's a couple places where it's down, but in general, it's been very good.

So, there's really no specifics, it's just started to pick up a little bit. I think some of it, you know, housing's up a little bit. Some of it's just the general economy. We're finally starting to see it in that general industrial piece.

So, I'm going to be -- hopefully we'll get out and talk to some folks and find out a little bit more now that the quarter is kind of behind us, and find out what's going on there, but it was very good news that that part of the business picked up some.

Okay good, and then just finally, can you just talk about your -- I think you said M&A is kind of opening up a little bit. Just talk about your capacity at the higher end, an appetite to do deals in this environment?

Well, you saw we did the Guardian deal. That was a nice little bolt-on for us, and I think the balance sheet's in very good shape. The environment, the financial environment, makes it a little more difficult because of the cost of money and the private equity guys that we have to compete with, and what they can do with leverage, etc.

So, it's -- and I think we've seen a little more activity from sellers, that there's some more books out there to look at and it just feels like things are getting a little bit better. But again, we're not going to overpay for something. We're going to be -- we're going to make sure that we get the right business and at the right price. But it does feel good, and I think we're more than open to do some acquisitions.

Okay, and then how do you balance that with buyback appetite? You know, if we assume maybe that the market reacts negatively to this earnings revision?

What we said is that we will continue to buy, repurchase our shares, that might change should we make a meaningful acquisition. And at that point, we revisit what we can do from a repurchase program. But given that there was a significant lack of opportunities other than the small Guardian deal, and our step change in our ability to generate free cash flow, we thought the best way was to start to return more to our shareholders.

And again, that might change if a big -- another Svendborg opportunity comes along, we might change that.

Okay great, thanks guys.

Thanks, Jeff.

The next question is from Anna Kaminskaya of Merrill Lynch. Please go ahead.

Hi guys, first of all, what would your gross margin have been without the supply issue? You reported it was 30.9%, would it be possible to quantify what the number would be without the supply issue?

I think the supply issue probably would have added about 50 to 75 basis points to the margin.

Wow. And would it be possible to kind of provide the breakdown of how much mix helped, how much was pure volume, and maybe savings from your restructuring initiatives, and what type of gross margin can you achieve in the second half of the year?

And once again, any big moving pieces that we should be thinking about? Especially as energy's picking up?

The second half of the year typically has gross margin profile slightly below the first half, given the seasonality and the lower volume. And that's our expectation going into the second half.

So in your outlook, you're forecasting a lower gross margin from the first half?

Yes, slightly lower than the first half.

Because I thought on the previous -- I'm just looking at my model in the previous two years, it was always higher in the second half of the year. Is something different in the mix that's -- I'm not capturing in my model?

Well, as I was commenting last year we had a very strong performance in Turf and Garden, and the Ag market. And I think the other thing that has changed compared to last year is that mining is down, which is a very profitable piece of our business.

Svendborg has been included with -- Svendborg is now included, which wasn't there last year, and that has an effect on margins as they have slightly higher gross margin than -- but higher SG&A also compared to the Altra average.

Okay, and you don't have kind of big drivers of margin year-over-year in terms of mix, or positive pricing, net of material cost inflations, that you could kind of provide 2Q 2014 over 2Q 2013?

Haven't provided that.

No, I mean --

I can take it offline. Okay. And then if I look at just North American growth, given how strong it was, how much of that was kind of growth with your OEM customers, and how much was distribution? Am I reading correctly from your comments that distribution was stronger than OEM, or is it just --?

No, they were comparable.

Comparable growth rates? Okay.

Yes.

And is it -- do you get a sense of it with (multiple speakers) --?

OEM was actually a little bit stronger than the distribution side.

Distribution was somewhere 3%, 4%, and so the OEM side --

The OEM side was stronger than that.

-- was stronger.

And is it the same in Europe, or no?

In Europe, in (multiple speakers) --

In terms of distribution, OEMs?

The majority of our business in Europe is OEM business.

Okay.

And a relative small percentage of it's distribution.

Okay, thank you very much.

Okay, thanks, Anna.

(Operator Instructions) The next question is from Scott Graham of Jefferies. Please go ahead.

Hey, good afternoon. I'm sorry to beat this thing to a pulp here, but on the sales side I think someone earlier alluded to I think all of us trying to triangulate toward this thing, because you say in your end market review page that sales at distribution were up significantly and broadly, suggesting that that's a pretty good channel for you and that's your largest channel. This would then imply that Turf and Garden, and Ag, will then be down significantly in the second half of the year, not just slow like I think you said -- but down significantly. Otherwise, I'm just missing something.

Could you -- I got the Europe piece, I certainly have the mining, but when we consider this in the context that the second half of last year's sales organically were essentially flat on easy comparisons from the year before, I'm just having trouble rolling all of this together and getting to my math which says second half sales at your midpoint organically, at the midpoint of the guidance, are actually down.

So I think when we say distribution significantly, it was -- it had been down. North America was down year-over-year. So, you know, now it's starting to grow again. And so, it was a nice, significant improvement for us to see it starting to grow again. It's not like it's at 10% growth, it's a much smaller number than that. And it is broad.

I think Scott, we just are a little bit concerned that the third quarter seasonality and some of the businesses are, may see some softening in that third quarter, and then the Europe and Asia piece is a big wild card. So, we thought holding the guidance where we had projected it was a reasonable thing to do at this point.

All right, fair enough. I guess my other question would be, and I guess this is sort of piggybacking off of what Jeff was getting at, is that it sounds like they -- I think initially, the implication was that the supplier issue running into the second half, and the healthcare thing, was the bigger part of the EPS guidance takedown. But in fact, it's really the sales. Is that correct?

The sales? It's a combination of the supply and medical issues and the incremental dilutive effect of the convert. Those are the big items that accounts for almost the entire reduction in the guidance.

Okay, so it's the three things. It's the dilution, it's the sales, and it's the medical, and the suppliers plays a very small part? Okay. But on the medical thing, I know that there was an earlier question that kind of got to some of the numbers behind it, but I guess my bigger question is why.

Why is this happening, and is this an issue with just maybe a demographic issue with workers? Is there a -- are there problems with safety in facilities? Are -- I mean, it's just, it's kind of inexplicable, the delta that you've given us here.

It is, and so what happens is, we are self-insured and up to a certain point we have an umbrella policy. If there are large claims, that can have an impact on us. And historically we have three, four, five large claims a year, two to five. And right now, there's just a large number of them, and that can be a very expensive cancer situation, it can be an infant that's gone into a neonatal ICU, that's a very expensive thing that can happen. And so, we just had a -- it was an unusual number of these large cases.

And then -- and so you incur the expense plus you have to accrue for what has been submitted, but not expensed yet. And it was just a very unusually high number, so it's -- and it doesn't happen very often. I can't think of another time in our history that we've had this kind of a medical occurrence.

And we have about 1,900 participants in our medical plan here in North America. If you include family members that may be I don't know, 3,000, 4,000 people that have medical insurance through us. And what happened is that for whatever reason, there's quite a number of people that are very, very sick, and it's unrelated to work.

There's a baby in the ICU unit, a newborn, that's cost us $350,000 so far. It was above the stop-loss. There's a couple of cancer situations, and it's -- I call it a statistical abnormality. It happens from time to time that you run into a period where you have a very large number of large claims. Completely unrelated to -- this has nothing to do with the workers' compensation, so therefore it has nothing to do with the work environment or anything. It's medical expenses.

Right.

Okay, so the forward -- the accruals going forward, Christian, are they based on a combination of what's been filed, not expensed, plus your estimate for future filings?

No, you cannot accrue for the future medical expenses. What you accrue for is the expenses that you have incurred, but that have not been reported to you. In other words, somebody went to see the doctor or had a surgery or medical procedure in June, but we don't get the bill until August. For that, we set up an accrual, and therefore that accrual has increased because the general medical expenses have increased, and it's a function of essentially medical expenses for a certain period of time.

Right, but you're implying it's a second half issue as well, so it seems to me like you're making some assumptions. Not necessarily accruing, but making some assumptions, of a continuance of the thing.

Yes. That is right.

That's correct. That's correct, we're assuming that this situation continues on.

If you're a cancer patient, and you currently have run up $125,000 of charges, medical expenses, we now have to assume as we look at our forecast that you're going to hit the stop-loss over the next six months and you're going to cost us $250,000. So that, we take into consideration when we do the forecast.

That's correct.

Okay, so this is still a bit of a wild card for the second half of the year?

Absolutely. Absolutely.

Yes.

But the fact is, it could go either way. It could also go against you first, right?

Absolutely. It could go, he's done with his treatment, and this person's done with his treatment, and therefore no more medical expenses related to this case.

Understood. Last question, another big end market for you, back to that questioning. The materials handling, you called that strong, and I just kind of want to make sure that I have that word -- strong -- correctly tabulated. Is that strong defined as a plus 5%, or is that strong defined as a plus 10%, or otherwise?

I'd say in this environment, anything above plus 3% I would consider strong, because we're kind of in a -- so it's probably in the 4%, 5% range, for overall material handling. And that's elevators, forklifts, conveyor systems, it's a pretty broad swath of equipment that goes into material handling for us, but it's in that kind of mid-single-digits, 4%, 5%.

All right guys, thanks.

Okay Scott, thank you.

There are no further questions at this time. I would like to turn the floor back over to Carl Christenson for closing comments.

Okay, and I would just like to thank everyone for joining us this evening, and we look forward to speaking with some of you at our next conference. Thank you.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.