安朗杰 (ALLE) 2016 Q3 法說會逐字稿

Good morning and welcome to Allegion's third-quarter earnings call.

(Operator Instructions)

Please note this event is being recorded. I would now like to turn the conference over to Mike Wagnes. Mr. Wagnes, please go ahead.

Thank you, Keith. Good morning, everyone. Welcome and thank you for joining us for the third-quarter 2016 Allegion earnings call. With me today are Dave Petratis, Chairman, President, and Chief Executive Officer; and Patrick Shannon, Senior Vice President and Chief Financial Officer of Allegion. Our earnings release, which was issued earlier this morning and the presentation, which we will refer to in today's call, are available on our website at www.allegion.com. This call will be recorded and archived on our website.

Please go to slide number 2. Statements made on today's call that are not historical facts are considered forward-looking statements, and are made pursuant to the Safe Harbor provisions of the federal securities law. Please see our SEC filings for a description of some of the factors that may cause actual results to vary from anticipated results. The Company assumes no obligation to update these forward-looking statements.

Please go to slide number 3. Our release and today's commentary include non-GAAP financial measures, which exclude the impacts of impairment, [log] fund divestitures, restructuring and acquisition expenses in current and prior-year results. We believe these adjustments reflect the underlying performance of the business when discussing operational results and comparing to the prior-year periods. Please refer to the reconciliation in the financial tables of our press release for further details.

Dave and Patrick will discuss our third-quarter 2016 results, which will be followed by a Q&A session. For the Q&A, we would like to ask each caller to limit themselves to one question and then re-enter the queue. We will do our best to get to everyone given the time allotted.

Please go to slide 4 and I'll turn the call over to Dave.

Thanks, Mike. Good morning and thank you for joining us today. I'm pleased with the Company's third-quarter results. We continue to deliver profitable growth that reflects continued execution of our growth pillars as well as the benefits of investments in the business.

Third-quarter revenues came in at $581 million, growing 6.7% over prior year and reflecting organic growth of 5% as well as the benefit of prior-year acquisitions. Americas had organic growth of 5.6%, which was driven by solid revenue growth in our non-residential business.

Europe organic revenues grew at 1.6% and our Asia-Pacific business grew at 7.3% organically. If we exclude the previously divested systems integration business, revenues from prior-year amounts, the Asia-Pacific business achieved organic growth of 10.6%.

Adjusted operating income of $126.7 million increased 8.4% versus the prior year. Overall, operating margin improved by 30 basis points, driven by continued price realization, volume leverage and favorable mix which was more than offset by incremental investments, which was the headwind of 70 basis points.

Americas and Asia-Pacific saw year-over-year improvement and adjusted operating margin with Europe being slightly down. Adjusted earnings per share of $0.93 increased slightly versus the prior-year period and driven primarily by improving operating performance.

As a result, we are reaffirming our full-year guidance of organic revenue growth to a range of 5% to 6% and total revenue growth of 8% to 9%. In addition, we are updating and tightening our full-year adjusted EPS guidance to $3.38 to $3.43 per share. This EPS guidance is inclusive of an estimated $0.03 impact from adoption of a new accounting standard for stock-based compensation in the fourth quarter of 2016.

Please go to slide 5. Shifting a bit from the financials, I would like to talk about the electro-mechanical convergence in the industry and one of our upcoming product launches. With our pioneering brand emphasis on innovation Allegion continues to lead our industry in electro-mechanical convergence and innovation. Electro-mechanical convergence doesn't mean we're asking customers to completely convert to electronics security products. We encourage them to use electronic solutions to complement their mechanical.

We're discussing both mechanical and electronic to enable the optimized balance in addressing the physical security needs and unique applications that are secure, cost-effective and convenient to use. The latest addition to the Schlage lock family, the LE Series, exemplifies the electro-mechanical convergence in a commercial environment.

This connected mortise solution will complement our Schlage NDE Series for doors with cylindrical prep and Schlage Control for deadbolt applications, all part of our ENGAGE Connected platform strategy. The locks are able to work with the systems that end-users already have in place to extend the benefit of electronic access control to more doors deeper inside the building.

Schlage Control NDE and the LE Series locks can also be managed as an off-line solution, with the ENGAGE mobile app. This provides building owners and access control solutions that are simpler and more cost-effective to manage than mechanical keys alone. Allegion will continue to embrace electro-mechanical convergence, balanced, seeing convenience and security through products like Schlage NDE and LE Series, Schlage Control for multifamily, and Schlage Sense and Connect for single-family residential applications. Patrick will now take you through the financial results and I'll be back to discuss our full-year 2016 guidance

Thanks, Dave, and good morning, everyone. Thank you for joining the call this morning. Please go to slide number 6. This slide depicts the components of our revenue growth for the third quarter. I'll focus on the Allegion results and then cover the regions in the respective slides.

Total reported revenue growth was 6.7% for the quarter. As indicated, we delivered 5% organic growth, with contributions from all regions. Each region also contributed to both price realization as well as volume growth. Foreign currency was a slight headwind in the quarter, while acquisitions contributed approximately $26 million of incremental revenue, or 4.9% growth, which more than offset the impact of divestitures.

Please go to slide number 7. Reported net revenue for the quarter was $581.1 million, which is a 6.7% increase versus the prior-year period. I was extremely pleased with the solid organic growth from Americas and Asia. In addition, the acquisitions completed in the past 12 months have contributed nicely to revenue growth, particularly in the EMEIA region.

Adjusted operating income of $126.7 million increased 8.4% compared to the prior year. The benefit of modest margin expansion on incremental volumes net of incremental investments helped deliver 30 basis points of improvement versus the prior year. This reflects the sixth straight quarter of year-over-year margin growth.

Of note, volume increases in our Americas non-residential business contributed to favorable mix in the quarter. I'll discuss this in more detail when we're viewing the Americas slide. I'd also note that we improved our industry-leading adjusted EBITDA margin to 24.5%, an improvement of 80 basis points versus the prior year. All regions improved on this metric in the quarter.

Please go to slide number 8. This slide reflects our EPS reconciliation for the third quarter. For the third quarter of 2015, reported EPS was a loss of $0.28. Adjusting $1.20 for the prior-year loss on divestitures, restructuring and acquisition-related expenditures, the 2015 adjusted EPS was $0.92 per share. Operational results increased EPS by $0.14, as leverage on incremental volumes, favorable business mix, productivity and price more than offset inflationary impacts.

The unfavorable net productivity inflation reflects the quarterly timing of certain expenditures. And although foreign exchange was a revenue headwind in the quarter, this was offset by our foreign-denominated cost, resulting in a slightly favorability of EPS when compared to the prior year. Acquisitions, net of divestitures, added $0.01 in the quarter.

Next, interest and other income were a net $0.05 decrease to EPS. The higher interest expense is related to the issuance of senior notes in the prior year. The unfavorable other net items primarily reflects the positive impact from the sale of non-strategic marketable securities last year. The increase in the adjusted effective tax rate drove a $0.05 per share decrease versus the prior year.

The increase in rate is due to the favorable resolutions to uncertain tax positions in 2015, partially offset by favorable changes in the mix of income earned in lower tax rate jurisdictions. Lastly, incremental investments related to ongoing growth opportunities for new product development and channel management as well as corporate initiatives were a $0.04 reduction. This results in adjusted second-quarter 2016 EPS of $0.93 per share, an increase of approximately $0.01, or 1.1% versus the prior-year period.

Continuing on, we have a negative $0.91 per share reduction for impairments, restructuring and acquisition-related expenditures. Third-quarter 2016 results included an impairment charge of $84.4 million, or $0.87 per share, primarily related to the receivable recorded as consideration for the previously divested system integration business in China.

The impairment write-off reflects our belief that the remaining receivable left on the books when the business was divested was no longer collectible. Divesting the system integration business was an important step, improving our portfolio.

However, collection of our receivable has been difficult, given the deteriorating business conditions and the poor performance of divested business. After giving effect to these items, we arrive at the third quarter of 2016 reported EPS of $0.02.

Please go to slide number 9. Third-quarter revenues for the Americas region were $436.2 million, up 4.1%, or an increase of 5.6% on an organic basis. The non-residential segment delivered high single-digit revenue growth in the quarter. Pricing remained solid and strength across the non-residential product portfolio rose to solid growth.

The residential business grew at low single digits after excluding the divested Venezuelan business from prior-year results. Favorable volume growth and new construction builder channels was partially offset by weakness in the retail channel. On a year-to-date basis, the residential segment has grown mid-single digits.

America's adjusted operating income of $132.3 million was up 8.3% versus the prior-year period. Adjusted operating margin for the quarter increased 110 basis points. The margin improvement was driven by strong volume leverage, pricing and the favorable mix attributable to the strength of non-residential growth. Overall price and productivity more than offset the impact from inflation and incremental investment.

We do see higher commodity prices in the third quarter and expect that additional commodity inflation pressure to continue. As noted in the presentation, investments were a 60 basis point headwind in the quarter. We expect additional investment headwind to continue for the remainder of the year.

Please go to slide number 10. Third-quarter revenues for the EMEIA region were $116.4 million, up 27.2%, or up 1.6% on an organic basis. Acquisitions delivered approximately $25 million in incremental revenue. EMEIA adjustments operating income of $7.3 million increased 23.7% versus the prior-year period.

Adjusted operating margin for the quarter decreased 10 basis points and adjusted EBITDA margin increased 170 basis points. The base European business showed margin expansion in the third quarter. This was offset by margin deterioration related to the recent Trelock acquisition, driven by seasonality in their markets and operating performance being below expected levels.

Although margins declined slightly in the quarter, we anticipate operating income and margin improvement to continue in Q4 and closed the year with record performance for Allegion. Similar to the Americas region, price and productivity more than offset impacts from inflation and incremental investments for Europe.

During the third quarter, we did begin to see an impact from the UK/EU referendum vote for Brexit. We saw an unfavorable impact, both on the top-line revenue as well as operating income. On a year-to-date basis, the adjusted operating margin is up 200 basis points for the EMEIA region.

Please go to slide number 11. Third-quarter revenues for the Asia-Pacific region were $28.5 million, down 16.4% versus the prior-year period. As noted on the slide, the decrease was specific to the 2015 divestiture of the system integration business located in China, which drove a $10.6 million reduction in revenues year over year.

Excluding the system integration business and prior-year numbers, organic revenues grew approximately 10.6%. Most sub-regions performed well, with notable strength in Australia and New Zealand. Asia-Pacific adjusted operating income was $1.8 million, which reflects an improvement of $1.1 million versus the prior-year period. Adjusted operating margin for the quarter increased 420 basis points versus the prior-year period. The year-over-year operating income and margin improvement was driven by the impact of the system integration business divestiture in 2015.

Please go to slide number 12. Year-to-date available cash flow for the third quarter of 2016 was $152 million, a $53.3 million increase versus the prior year. The improvement in available cash flow is primarily attributable to increased earnings.

Working capital, as a percent of revenues and the ratio for cash conversion cycle, has increased slightly in 2016. We remain committed to an effective and efficient use of working capital.

And lastly, we are raising our guidance for full-year available cash flow to approximately $300 million, the high end of our previous guidance of $280 million to $300 million. This represents an approximate increase of 35% compared to the prior year. I will now hand the call back over to Dave for an update on our full-year 2016 guidance

Thank you, Patrick. Please go to slide 13. We are reaffirming our 2016 guidance for revenue and updating and tightening our guidance for EPS, as noted on the slide. Total organic revenue guidance remains at a range of 5% to 6%, and total revenue remaining at a range of 8% to 9%.

If we look closer at the Americas business, non-residential markets continue to perform well and we expect slow and steady improvement in our core non-residential segment. Modest growth is expected in institutional verticals and solid growth in commercial markets.

Residential market indicators still suggest continued growth, as new housing starts remain stable but still remain below historical average, with resilient strength in the multi-family segment. Strength in new housing is offset by challenging conditions and big-box retailers.

European markets have stabilized and we continue to see modest growth in our core geographies, which is reflected in the increase in our organic guidance and are leveraging our broader portfolio to accelerate growth. In the Asia-Pacific, we continue to make progress with a focus on mechanical and electrical hardware solutions in growth verticals.

We are tightening our EPS guidance by raising the low end of the range. We are also updating both ends of the guidance for an estimated $0.03 impact related to the adoption of accounting standards for stock-based compensation. With these changes, we are guiding full-year adjusted EPS at $3.38 to $3.43 compared to guidance of $3.30 to $3.40.

As we look to 2017, we see markets remaining steady, with modest expansion globally. North American markets are expected to continue to be solid while European markets are expected to be modest. Additionally, we see growth potential in the Asia-Pacific markets that we participate in.

Please go to slide 14. Let me finish by reiterating that I'm very pleased with our third-quarter execution and results. As a summary, total revenue grew close to 7%. Organic revenue grew at 5%. Operating margin increased 30 basis points. It was a sixth straight quarter with year-over-year margin improvement. EBITDA margin grew by 80 basis points. EPS grew year over year despite below-the-line pressure.

These are strong numbers. We are reaffirming our revenue growth expectations for the year, have tightened the range for our full-year EPS outlook and have adjusted our available cash flow guidance to the high end of our prior range. Now Patrick and I will be happy to take your questions.

(Operator Instructions)

Tim Wojs, Robert W. Baird.

I guess, my question, just expand a little bit on your thoughts on the end markets. I mean, there's a lot of mixed data points and cross currents that are going on with construction data lately. So could you talk a little bit to your confidence in some of the non-res growth that you're seeing? And then, if you could split it out maybe between commercial and institutional, what you maybe think preliminarily into 2017?

As I stated, we remain positive on 2017. As we look at our [quote] activity, our backlogs going into the year, these are positive. Spent some time over the last few weeks working with our forecasting team, our outside advisors, and see positive expansion in the institutional markets as we move into 2017. See some improvement in healthcare. There's some spots of weakness in commercial, but we're net positive.

I think, second, our attack on segmentation in the market is servicing us well. This is the tenant retrofit/replacement light commercial market. We think even if the market would soften, which I'm not suggesting, that there's enough self-help out there, convergence that we can put in growth aspirations that are in line with our long-term plan.

That's great. Thanks a lot.

Steven Winoker, Bernstein.

I'd love to get some more detail and color around the EMEIA progress, restructuring, margin expansion, just in light of the performance that I thought came in a bit low versus at least what I was expecting. So just help us understand the different puts and takes around it.

Yes, sure, Steve. As you are aware, Q3 normally seasonally is a weaker quarter given some of the shutdowns in the European area. As you mentioned, it was a little bit disappointing to us. I'd say a couple of factors to that specifically. One was, as you're aware, with a facility closure we announced last year, moving from Italy to a third-party supplier has taken a little bit longer than what we had originally anticipated. We're still getting some benefits, but not getting as much as we had anticipated in the quarter and the year. It's more of a timing issue as we finish that transition. At the beginning of next year, we will fully realize the benefits there.

Secondly, in conjunction with the acquisition of Trelock completed at the end of Q2, start-up problems, the seasonality of the business is lower in Q3. A couple of operational hiccups. Not a big business but weighed on the margin expectations. A little bit of inflation headwinds as well but I think, more importantly, I look at it and step back and say, is the region off on the right trajectory? And the answer is, yes.

We finished the quarter with really strong backlog and it was one of those quarters that started out slow, continued to progress positively in the back half of the quarter, so we ended the quarter with strong backlog that supports an improvement in organic growth sequentially and year over year for Q4, and we would expect the margin dollars and margin improvement to continue in Q4 as what you've seen historic in the last several quarters.

And I would just remind you historically when we started this journey three years ago, it's been -- we had in EBIT margin of 1% and now, we're marching towards the objective of 10%. And going forward, we would expect continuous improvement going forward, so --

Are you expecting anywhere near the same magnitude as you start to think about, I don't know, just a little bit longer time period, if you think about last 12 months versus next 12 months, or how should we think about that timing of that?

In terms of what specifically --?

In margin, I'm sorry. Margin expansion, specifically.

So I think you won't see quite the improvement as what you've seen, obviously, the last couple of years but there will continue to be improvement, in the margin going forward as we look into 2017. That's going to come from continuous improvement and productivity, operational excellence, getting some more synergies from the acquisitions that we completed last year and those type of things.

The broader market, our larger competitors run between 10% and 15% OI. We're going to be there and we're going to continue to march towards the high end of the range. As we improve the portfolio, strengthen our customer value proposition, we think we're a credible player in that market versus our peers.

Okay. And just quickly, what was the electronics growth rate overall? It was mid-teens last quarter.

Yes, higher than what you saw in our overall growth numbers with this electro-mechanical convergence growing faster than mechanical. I think on a year-to-date basis we're up low teens area, so it continues to drive faster growth than the traditional business.

So I know it was low teens and -- or roughly low teens in Q1, mid-teens in Q2. If you're saying it's low teens year to date, you're saying it's somewhere between low and mid in this last quarter, just to put a final point on it?

Yes.

Okay. And anything accelerating in there? Within resi or non-resi?

Yes, I would say it's at steady growth. We, on the resi side, the electronics adoption continues to expand. Seeing really good growth there. The non-residential segment as well, so I wouldn't characterize it as significant growth. Remember last year, we had some load ends, particularly on the Schlage Sense product that we introduced in the back half of the year and so that's making the comparisons a little bit more difficult year over year.

You need to think about this. The mechanical business, low single digits. The electronic business, globally at high single-digits, so let's say 8%, and I think mid-teens improvement over the long term in the electronics is a pretty good place to be.

Okay. Great, thanks.

Joe Ritchie, Goldman Sachs.

So I may have missed it in the last question that Steve asked, but the trend into 4Q, it looks like the guidance implies Americas up 3% to 5%. Is there just some conservatism that you guys are baking in there or did trends actually change at all as you guys progressed through the third quarter?

This business naturally winds down as we run into the fourth quarter. I think we're looking realistically at the Americas growth in terms of what it will deliver.

I would just add, again, our guidance didn't change in Americas and so it was expected that sequentially the growth would be down in Q4 relative to Q3, and again, difficult comparisons, particularly on the residential, we had a lot of load ends associated with our new electronic locks in the residential Schlage Sense products, so that was the primary driver on the comparisons.

Got it. That makes sense. I guess, maybe one last question. On free cash flow, you guys made some good progress this year, I know it's a longer-term goal to get to 100% conversion, can you talk a little bit about that and the opportunities that may present themselves in 2017?

Yes, so the expectation is that we would remain at 100% conversion ratio. You've seen that over the last couple of years. You're aware, obviously, that if you look at the components of our cash flow, not a heavy capital requirements. CapEx, we would expect to be, call it, 2% of revenue. Believe we can kind of maintain that level.

Working capital, we've done a really good job to accelerate the velocity and turnover of receivables and inventories and so see a 5% to 6% of revenue type number there. And so even with growth continuing going forward, we would expect that we could maintain the 100% conversion ratio, 2017 and beyond.

I would add the Allegion model is set up for cash flow. We have made investments in the business in inventories to support ProExpress new regional warehouse locations and we're continuing to improve the cash flow characteristics of the business. I think we've got a good handle on the equation and that goal of 100% of net earnings is important to our team.

Great. Thanks, guys.

Jeff Kessler, Imperial Capital.

Hi, thank you for taking the call. How -- can you dive down into a little bit into the types of investments that you're going to be making? Clearly, you're keeping that investment level at a fairly high rate and the return on that investment, obviously, has been pretty good up to this point but what are you -- going forward, what type of things are you looking at putting money into?

Without showing all my cards, remember we continue to attack the $1.6 billion US market opportunity that we call part of the retro -- repair, renovate light commercial space. Our first move was really after the retrofit and renovate with mid-priced point products that's supported by ProExpress. The next move is more targeted at that light commercial space, where lightly stacked, fast-moving general contractor decision-makers is where we think we can harvest some growth, Jeff.

I would just add, too, Jeff, this electronics and the electro-mechanical conversion, particularly on resi and the ability to accelerate the rate of adoption, so you'll see more investment dollars for demand creation, whether it be merchandising, advertising, those type of things on the resi side, continue to invest in our NPD to accelerate new product development. Get a higher vitality index is important to us.

And like you said, we're seeing incremental revenue growth, a little bit faster than the market, and the return on capital on these investments are significant. Very quick cash-on-cash payback and so we'll continue to make the investments to drive top-line growth and return on capital for our shareholders.

Okay. Related to that question, just quickly, mortise versus cylindrical. What's going on there? You have a new product out. How is -- how do you want to balance those two?

We'll balance based on the opportunity that specifiers in the market gives us. You go into the market like Dallas. We really drove that mortise application so we think adding the LE with the mortise capability and continue to expand a full range of electronic products will help us complement the spec capability and renovations capability that we have in the marketplace.

Okay. Thank you.

Joshua Pokrzywinski, Buckingham Research Group.

Just on the -- on some of those residential investments that you talked about, Patrick, that I think -- or even targeted in the fourth quarter, if I remember some of your higher comments right. Any expectation that you would see a pull-through in residential or some sort of acceleration in demand off of this bit of a decel that we had in the third quarter as a function of that investment?

The types of investments that we will be making in terms of trying to prime the market will be cumulative over time. We think with the electronic convergence and style and design, we have to create market demand and it will build as that awareness grows.

Got you. So not all at once, and maybe a 2017 opportunity.

I've always said with our Schlage Sense, I'd want two under every Christmas tree. That might be Christmas 2018. But this is part of what we're trying to drive in the marketplace. When I go to my college dorm, I can use a credential, a smartphone to get in. When I go home, why isn't my home better connected? And that's what we're trying to move.

Second would be style and design. Look at some of the DIY shows. They're upgrading the whole house and missing the hardware. This is movement that we're trying to make happen in the marketplace.

Got you. That's good color. And then, just thinking about more broadly, the 4% to 6% growth algorithm that you guys have over time. When I think about the major inputs into that, between share gain on the $1.6 billion retrofit market; electronic growth, which sounds like it's holding in, if not accelerating, again with some of the initiatives you just spoke to.

Any reason to believe that, that algorithm looks different into next year, just based on what you're seeing and the broader end-market demand, the elements that I didn't just mention, as it relates to that forecast in the next year? Does anything about that look different than it did in 2016?

I don't see it. I never want to get my head in front of my skis. We will spend some time with you in the first part of next year at our Investor Day to sharpen our perspective on that. I think the Company is well positioned. I think that the segmented approach that we're taking to the market will export to Asia and Europe, and try and create our own capability, but I think our range expectation for growth is in line with what we can deliver.

Got you. That's helpful, and if I could just sneak one more in on the EMEIA margins. What would those have looked like in the quarter absent some of the moving pieces that you talked about there, Patrick, particularly on Trelock?

Absent Trelock, it would have been up 100 plus basis points.

Got you. That's helpful. Thank you so much.

Rich Kwas, Wells Fargo.

I wanted to just follow up as we think about 2017. Dave, appreciate your broad comments about underlying demand expectations, and the market. In terms of margin -- it sounds like EMEIA, in terms of improvements, is going to be more of a grind than initially thought. When you think about price cost and then investments, recollection was that you put through some price or started to put through some price but you had some negative impact or expected negative impact on commodity here in the second half.

Where did that end up? How are you thinking about next year? Are you putting through price now? And then, in terms of investment spend, could we just true up the $0.10 to $0.15, which is the initial target for spend for this year? You talked about impact this quarter. How should we think about framing that for 2017, at least relative to what your target was for this year?

Yes, so on the target this year, I mean you're right. We had a range of $0.10 to $0.15, probably mid to high point of that for the full year, so you're going to see a step-up sequentially in Q4 relative to Q3. We're still in the throes of our 2017 annual operating plan and so no specific color on that. We will continue to invest in the business, if we think it's a good return on capital, and we can drive accelerated growth faster than the broader market. So more to come on that on the next call.

Relative to the price inflation and investment equation, I mean we've always said that we manage the business to ensure that if you look at those components, those inputs, you try to net those out to zero so that -- of the effect of incremental volume, you get margin expansion. That's the financial model that we are trying to drive. You saw that in the quarter. You've seen in the last six quarters, and that's the continuing expectation. To the extent inflation rises faster, and we are seeing that in some of the inputs, particularly on steel, which is up like 40% relative to where we ended Q2, the expectation over an extended period of time, is we'd be able to offset that in price.

We've done that historically. There's always going to be a timing gap. You can't go out in the market and do that immediately but that would be the expectation that we could -- we'd be able to offset the inflationary pressure with price, and we can drive productivity, operational excellence, and do some things leaner at our facilities.

So, Patrick, would you say that here in the interim that, that's going to be maybe a little bit more of a pressure point until you get deeper into next year, as we think about price cost metrics?

Yes, it would be a little pressure point but given our guidance, the expectation will be some continued margin expansion in Q4. So you're not seeing the full effect of that. And we did go out the price increase in October. You don't see the full effect of that, because the bids and order activity is protected on some of that into next year. So again, there's always some carryover on that and timing relative to the input cost.

Okay. And just real quick one, Dave, on capital deployment. So you continue to look at acquisitions or some higher-profile assets that are apparently on the block. How do you think the -- how are you looking at the toggle in terms of investments and opportunities and size versus scale, et cetera?

So all toggles are available. Our cash build gives us optionality here and I'd say we're fully engaged on the acquisition front. We're busy. We're looking at files around the world. I was energized by my recent visit to the Essen Trade Show in Germany, plenty of things for us to consider, and -- but all toggles available.

Okay. Thank you.

(Operator Instructions)

Andrew Obin, Bank of America Merrill Lynch.

Just a broader question, not really related to the market. Is this better, with the echo? No, no, it's not. Have you guys considered some form of quarterly guidance because this is second quarter this year where you disappoint and the stock is not reacting well while the underlying performance of the Company is actually extremely strong. How do you guys think about it and what do you think you're hearing from the shareholders on this subject?

Our shareholders, they manage for the long term. I think my energies and the team's energies are better positioned on annual goals and driving towards that. I think we, at the end of the day, are a $2 billion company and our energies are better focused on the long term versus -- and giving you good focus on what we'll deliver on an annual basis versus dancing on a quarterly basis.

Appreciate the answer. Just a follow-up question. You highlighted some weakness in US non-res. Can you just -- I don't want to harp on it but can you just highlight what specific markets you are seeing weakness in? Thank you.

Andrew, it's big box and it's opening price point. I look at the overall P&L management of the res segment and feel good about it. Mid-single-digit growth for the year and improvement in our profitability. You'll look at us investing back in that overall rest segment to accelerate the electronics over the next 12 months, and that's how the -- it places a -- we look at, in terms of new construction and renovation on the residential segments, as being positive going into next year.

But we've got to pick our spots. The replacement and renovation market has always been good for our Schlage brands and we think we have an opportunity with the strength of our electronic products to create some demand as electronics convergence moves forward.

Terrific. Thank you so much, guys.

Julian Mitchell, Credit Suisse.

This is Lee Sandquist on for Julian Mitchell. Can you just talk about your updated organic guidance in Asia Pacific and how we should think about the potential margin expansion and organic growth story here over the longer term?

I think -- I hope you have thought about how our repositioning in the market. We're focused. We're going after specific verticals, executing well Australia and New Zealand, and I think it's going to give us above-market growth opportunities. Patrick, I'll let you talk about the margins.

Yes, margin, as you've seen, has continued to expand some of that, obviously related to the divested Bocom business last year. But organically, getting good top-line growth and that's helping to accelerate the margin improvement there. We outlined on the last call, I think, the long-term objective to get to 10% plus type of OI. I don't think that's in the next 12 months but I would expect to see continued improvement as long as the region continues to show strength and its organic growth opportunities.

We are competing in the segments that we attack on spec-driven type work similar to what we do in Europe and the Americas, and high-valued electronics. A lot of that Asian market is opening price point but there's plenty of us to -- room to operate and I think carve out a pretty good business that's been reflected over this year.

Great. Thank you.

Jeremie Capron, CLSA.

Can you guys maybe recap the situation with regards to the Bocom business in China and the charge you're taking this quarter? I know you took a pretty sizable impairment charge last year just before selling the business. And particularly from a cash flow perspective, what do you eventually get for Bocom in terms of, again, in terms of cash? Thank you.

Yes, so going back strategically, right decision to divest the business. You may recall long earnings cycle, with government municipalities, bad return on invested capital, and so divesting the business, given that we had nothing really to leverage within our portfolio. Good move there. The write-down last year was just based on the anticipated consideration that we were going to receive.

And what's happened since the sale, basically, is the business has deteriorated relative to its future ongoing cash requirements, the receivables, coming in lower than anticipated, again, from the government municipalities and so you look at what the expectation is going forward and we determined that the consideration isn't collectible at this moment. We'll continue to endeavor to do what we can to work with the business, to collect on those monies.

But right now, don't anticipate any collections. It has no impact relative to our available cash flow projections. As indicated, we upped our ACF guidance, has no impact, really, going forward. It was not included in our guidance to begin with and so it's just -- it's unfortunate, but one of those things that's happened given the deterioration in the business in the broader China economies.

Thanks. And going back to the electronics lock portfolio and the growth you've seen this year. It seems to be slowing a little bit after strong success of the Schlage Sense about a year ago. I wonder as we go into 2017, how is your product development pipeline looking? Should we expect re-acceleration of -- in the electronic locks side of your portfolio? Thanks.

Electronic development of our entire portfolio, and this would include exit devices, locks, the smart closers, will continue to be a high priority in our investment, capital deployment decisions. I think any time when you introduce new technologies, when we have the success, the market tends to normalize. And low double-digit growth is significantly above the 8% -- 6% to 8% growth that is forecasted for growth for this globally. So feel good about the opportunity. There's a billion locks in the world and the penetration rates globally are low. We think it's one of the bright opportunities for Allegion going forward.

Thanks, guys, and good luck.

Jeffrey Sprague, Vertical Research Partners.

I was wondering if you could just provide a little bit more color on -- pick up my handset, too, here. A little bit more color on what you're seeing in the non-res markets, institutional in particular, I think you mentioned healthcare strength. But if you can go around the verticals and give us a little color, that would be helpful. And also in the past, you've talked a little bit about your front logs and bidding activity. Any update there would also be helpful. Thanks.

So not going to give specific numbers on our research but total institutional, as we move into 2017, positive. Education, positive, I think, builds on our comments. The state budgets, municipalities' budgets are in line. We've been pretty active in K through 12 security. Tim Eckersley, our Head of the Americas, was just given a national award on this.

We participated in a forum with government officials. There's tightness of funds, but K through 12 security, infrastructure, we see as a positive as we move into 2017, including higher ed. Hospitals, our total healthcare, a bit of a mixed bag. We see 2017 as a positive in hospital construction, but I would say modest. What's happening there, more medical office and clinics but that typically comes at a lower price point and lines up nicely with our initiative to go after some of this light commercial.

So total institutional, as I look from 2016 to 2017, positive. The commercial, we'd say slightly flat to slightly up, but the Allegion perspective, as we move into 2017 in our core markets in the US is positive, Jeff.

Would you say there's a preponderance towards retrofit activity right now in those markets? Or can you address the mix, new versus retrofit as you see it?

The retrofit market chugs along. Even when in the bottoms of the recession and budgets are tight, it's the gift that keeps on giving. If you've got a lock, exit device, or closer, I think, my view on the retrofit replacement market is, again, net positive.

Thank you.

Robert Barry, Susquehanna International.

Could I just clarify that comment on that Bocom receivable? It sounds like it's not impacting the cash flow outlook but is it a receivable you had expected to collect on and now you're not, or could you just clarify that?

Yes, exactly. So at the time of disposition, again in Q3 last year, the expectation was there would be some consideration to be received from the collection of receivables on that divested business that would then funnel to us, and now the outlook we're saying it's unlikely that we will have any monies coming our way associated with that.

Got you. So some of the compensation you received effectively was this receivable, so the sale proceeds are lower?

Correct.

Is that fair?

Yes.

Okay, I guess just a couple of housekeeping items at this point. On the tax rate, should we carry this 18% rate forward into 2017, and if it's 18% for the year, does that imply a particularly low rate in 4Q? And then, on the performance comp accounting change, does that add $0.09 next year and $0.12 in future years? Thanks.

Yes, so on the taxes, so the 18% full-year guidance includes the $0.03 one-time benefit from the accounting change on the stock-based comp. So you'd really have to back that out and you get to a range that's really closer to our original guidance, the top end of 19%, so that would be kind of the going-forward position, if you will. And then, as we put together our budget and plans for 2017, we will give you more guidance on that going forward.

I see. So it's like a one-timer for now.

Exactly.

Right. Okay, thank you.

Brandon Rolle, Longbow Research.

Hi, this is Brandon Rolle on for David MacGregor. My question was surrounding the Americas incremental margins. How much of this do you think is based on temporary weakness and the year-ago compares and how sustainable are these levels? We normally think of your business as having a 40% incremental margin on volume but you have been well above that for the past few quarters. Is that 40% becoming a larger number?

No, I think long term, 40% is probably a good expectation, is what we would anticipate. You're right. We got really good leverage at our operating facilities on the incremental volume. But long term, 40% is probably a good barometer to use. As we mentioned previously, as the business continues to grow, and we can manage the inputs, inflation, productivity, pricing, investment, et cetera, we should continue to get some incremental margin improvement going forward.

All right. And as there are no more questions right now, I would like to return the call to Mike Wagnes for his closing comments

We'd like to thank everyone for participating in today's call. Please contact me with any questions and have a great day.

Thank you. The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.