A O Smith Corp (AOS) 2004 Q2 法說會逐字稿

Thank you for standing by. Welcome to the A.O. Smith second-quarter earnings conference call. (OPERATOR INSTRUCTIONS) As a reminder, the conference is being recorded. I would now like to turn the conference over to our host, Investor Relations Director, Mr. Craig Watson. Please go ahead, sir.

Good morning, ladies and gentlemen, and thank you for joining us on this conference call. With me this morning participating in the call are Bob O'Toole, Chairman and Chief Executive Officer; Ken Krueger, Chief Financial Officer; and John Kita, Treasurer and Controller.

Before we begin with Bob's remarks, I would like to remind you that some of the comments that will be made during this conference call, including answers to your questions, will constitute forward-looking statements. These forward-looking statements are subject to risks that could cause the actual results to be materially different. Those risks include, among others, matters that we have described in this morning's press release.

I would also like to point out that we have posted slides on our web site, so please feel free to follow along while we conduct the call. Bob?

Thank you, Craig.

This morning we announced second-quarter earnings of $17.3 million or 58 cents per share. Included in these earnings were 2 non-recurring items that generated a 6 cent gain. The net results of 52 cents per share approximated our forecasted results of 50 to 54 cents per share.

We earned 67 cents per share in last year's second quarter. While there were also some onetime income items in last year second quarter, the biggest drivers of the earnings decline were steel and freight costs and manufacturing inefficiencies at our water heater plant in Ashland City.

The cost of steel and other a raw materials continues to be higher than anyone anticipated as we entered the year, and they continue to be very volatile. As we indicated last quarter, we implemented price increases for both motors and water heaters to offset these cost increases. While these price increases offset the cost increases in the last part of the quarter, the net result was negative for the full second quarter. We expect the price increases will offset the costs for the second half of the year, but continue to closely monitor steel, freight and other costs, and we will initiate further pricing actions if appropriate.

Our Ashland City water heater plant continues to struggle with the impact of the multiple conversion programs. While we made progress early in the quarter, the June performance has regressed to unacceptable levels. Every effort is being made to restore performance levels in the third quarter.

Sales levels remain solid. During the quarter sales were $437 million compared to 418 million last year. Sales of flammable vapor resistant and NAECA compliant water heaters, growth in China and price increases were the primary sources of the growth.

Looking forward, we are forecasting earnings of 42 to 46 cents per share in the third quarter and we continue to maintain a forecast of $1.90 to $2.00 a share for the full year.

Now, Ken will go over the results in more detail. Ken?

Thank you Bob.

During the quarter sales were $437 million, up 5 percent from last year's second quarter. As Bob said, the increase was primarily due to the sales of flammable vapor resistant and NAECA compliant water heaters, growth in China and price increases.

Earnings were 58 cents for the quarter, which included 6 cents of income related to non-recurring items. The non-recurring items of approximately $2.5 million pre-tax consisted of 3.3 million of income at water systems related to the elimination of an accrual for Duron products, offset by the write-off of 800,000 of capitalized software and electrical products.

The Duron reserve had been established at the time of the acquisition of State Industries relating to a class-action lawsuit for the recovery of damages related to State's discontinued Duron product line. The Appellate Court of Illinois has recently elected not to hear an appeal on the case that granted State Industries' summary judgment. As a result, the reserve was eliminated.

I'd now like to discuss some of the details of second quarter performance.

Our gross profit margin of 20.2 percent was similar to last year. SG&A was 13.5 percent of sales compared to 12.4 percent last year. The increase resulted primarily from higher selling and logistics expenses at water systems, higher corporate expense, and lower pension income. We generated 21 million of operating cash flow during the quarter, despite a $14 million seasonal increase in working capital. Though we had expected improved working capital performance, working capital metrics were similar to the first quarter and unfavorable compared with a year ago.

Days receivable outstanding were 63 compared with 59 last year. Inventory days were 66 versus 63 while payable days improved to 45 days from 44. As a result, cash cycle days were 84 compared with 78 last year. In addition to increased days, receivables were higher due to increased sales volume and improved pricing. While some improvement has been made in finished goods levels, raw materials inventories increased as deliveries were taken to minimize price increase impacts. In addition to specific inventory reduction programs, working capital will improve in the second half of the year due to seasonality.

Capital spending was $9 million during the quarter and 19 million through the first 6 months of the year. We're projecting full year capital spending to be similar to last year's level of approximately $45 million, lower than projected depreciation of approximately $54 million.

Our debt to capital ratio at 33 percent was flat compared with the first quarter and slightly higher than the year end ratio of 32 percent.

Now, I would like to move on to a discussion of the operating performance in our electrical products and water systems businesses.

Sales of 228 million in electrical products were flat compared to the second quarter of 2003. Sales to the pump and ventilation markets increased by over 15 percent, but were offset by lower sales to the heating and air-conditioning market which declined about 10 percent, primarily due to the loss of a sales contract by an OEM customer.

Operating earnings declined to 17.4 million from 18.5 million last year. Relative to sales, operating margin was 7.6 compared to 8.1 percent last year as higher steel and freight costs more than offset the second quarter benefits of the Company's repositioning program.

As you know, raw material prices have increased significantly in 2004. Freight costs have also increased dramatically. During the last 4 months we have implemented price increases to address these cost pressures in both of our businesses. As we discussed last quarter, these price increases took effect during the quarter and began to offset the cost increases during the latter part of the quarter. Assuming a more stable market for steel through the balance of 2004, the improved pricing now in place should offset the higher steel and freight costs during the second half of the year.

Water systems' second quarter sales of 210 million were more than 10 percent higher than the second quarter of last year. The sales increase was driven by the introduction of new flammable vapor ignition resistant water heaters, initial shipments of heaters meeting the NAECA mandate for greater energy efficiency, continued strong growth in China, and price increases to cover higher cost for steel and freight. Because of the significant pre-buy that occurred in the second quarter 2003 related to the introduction of flammable vapor resistant product, residential unit volume was about 10 percent lower in the quarter just ended compared with last year. We are beginning to see some strength in the commercial market as volume improved more than 10 percent compared with the second quarter of 2003. Sales in China increased 40 percent to 14.8 million.

Operating profit increased to 18.7 million from the 17.8 million earned last year. However, excluding the 3.3 million gain from the resolution of the Duron products dispute, EBIT actually declined to 15.4 million. EBIT margin, adjusted for the Duron gain, declined to 7.4 percent from 9.4 and 2003. Operating inefficiencies related to the implementation of a series of conversion programs continued to disrupt production during the second quarter and more than offset the benefit of the higher sales.

As we discussed in our last conference call, these conversion programs involve the simultaneous implementation of programs that included -- the conversion of residential water heater products to meet new efficiency standards; standardization of the A.O. Smith and State residential product lines; relocation of production between the Ashland City and McBee plants; and an information systems conversion. These programs have particularly affected the Ashland City plant in Tennessee. Production levels declined significantly in January due to these conversions, despite an increase in manpower and overtime. While we made good progress during the first part of the quarter, performance degraded in the second half of the quarter. Manpower and overtime levels in the plants are still too high. Efforts are underway to improve the scheduling and effectiveness of our manufacturing efforts. While we have maintained customer service through all of these transitions, we need to reduce the penalty we are paying in manufacturing costs.

As I mentioned, one of the conversion programs involves the standardization of both State and A.O. Smith product lines in connection with the introduction of the NAECA mandates. Standardizing the basic design allows us to build product in plants closest to their end markets, maximizing manufacturing and shipping efficiencies. Secondly, these products while having a standard chassis will offer customized configuration further along in the assembly process. This program will allow us to streamline our manufacturing operations and maintain the most up-to-date product for all brands. Additional synergy initiatives include the consolidation of our standard commercial manufacturing operation into our McBee, South Carolina facility.

Both the flammable vapor and NAECA products are now well-established in the marketplace and contributed nicely the second quarter sales and earnings. We had previously projected that we would earn at least $15 million in incremental pre-tax profit from these products in 2004, and based on results through the first 6 months of the year we remain confident in this projection.

Not I would like to discuss the outlook for the balance of the year. We are forecasting that earnings will be in a range of 42 to 46 cents per share for third quarter. While this is significantly better than last year's difficult third quarter which yielded 20 cents per share, it is lower than we would like due to the slower-than-expected progress in improving manufacturing performance at Ashland City. Having said that, as I stated earlier we believe efficiency levels will improve as the year proceeds. Additionally, price increases are now beginning to offset higher steel and freight costs at both electrical products and water systems. Accordingly, we're maintaining our full year projection of $1.90 to $2.00 per share.

In conclusion, having worked our way through a very challenging first half of the year, our financial position is strong and the benefits from our new product and process improvement initiatives are beginning to materialize. We continue to be very enthused about our longer-term prospects, and we look forward to reporting on our progress next quarter.

That completes our opening remarks. We're now ready for your questions. As a reminder, please limit your inquiries to 1 or 2 questions at a time so that everyone interested has an opportunity to participate. Operator?

(OPERATOR INSTRUCTIONS) Michael Schneider, Robert W. Baird.

Good morning. Focusing on water heaters in my questions. First, I guess the obvious question is what happened in June in Tennessee that regressed the operation?

As we said, as we were in April we were improving significantly in the productivity and efficiency levels in that plant, and we really had done it by running the mainline units under the new NAECA standards more and more effectively. What we ran into, however, was we were short on what I will call the C&D items -- the less popular in SKUs that became an issue as far as customer service because obviously customers like to have their full orders complete both the standard 40, 50 gallon gas and electric, as well as the 20 gallon, the 75 -- the less popular SKUs. As a result, we put extended effort in May and in June on those C&D items, and that drove the efficiency levels in the plants back down to unacceptable levels. So it was really a matter of having gotten the main line production up and running pretty well, we then focused on the shorter run items, the C&D priorities, and as a result the efficiency levels fell back down.

What we have done now is to better balance and schedule the plants so that we're running both the main line and the shorter run units, and getting the productivity up by maintaining a schedule that's more reflective of the actual orders coming in the door.

So is it a case where you were just trying to rebuild orders and inventory on the A&B items and you had shorted C&D and now you have hopefully product on the A&B and you are able to better balance all of the items?

Yes, that was a big piece of it. Part of the issue becomes also the orders start to get out of balance when your shipments get a little bit out of balance. So we were getting -- because we're having some shortfalls in the shipments on the C&D items, we were getting more and more orders for them and generating more and more demand, and so as a result focused even more time and attention on the Cs and Ds than we normally would have. That, again, is what we've got into balance here in the first half of July and have the production levels and schedules more in balance with the long-term order patterns.

So what metric are you watching to see whether progress is indeed being made? Is it overtime work? Is it headcount? And give us a sense of where it finished the quarter versus mid-May when the issues started to arise.

Really one of the key items we look at is man hours per unit. We have been making substantial progress in that as we walked through April. And I will just kind of use relative terms of say 1.4, 1.5 man-hours per unit. And it went up about 10 or 15 percent in May or June as we focused on those C&D items. So the target and one of the primary metrics is our man-hours per unit. Now obviously factoring in above that, and the other thing we look at is overtime because the overtime costs do not get reflected in that primary metric.

So have you made progress as you completed June and entered July or are you still running at these elevated levels, looking to make progress in the third quarter?

We did not make a lot of progress in June. In the early parts of July -- well, first of all, we are shutdown the first week of July, so we're literally talking about -- we're in the second week of July and the metric comes in -- we really looking at it weekly, so I don't know Mike.

What gives you confidence that you will make this progress? What initiatives have been made or what changes have been made?

A big piece of it is running the plant scheduling the plant to longer-term order demands rather than trying to catch the cycles, as we talked about earlier.

The other piece, as you know, a water heater plant is really to a degree 2 plants -- it's the fabrication of tanks and it's assembly of the water heaters. And we have tank bank in a lot better balance as well.

Than specifically inventory within the water systems business, can you give us a sense of where it was at the end of the first quarter, where it is today and maybe year-over-year just so we know where the inventory stands?

Yes, hang on a minute for that one. Inventory during the quarter drifted up a little bit; not a lot. And relative to last year we are up substantially. Now having said that, we're up substantially -- a big piece of that is costs because you've got be the flammable vapor and the NAECA costs in that inventory now. So we're probably up, I don't know, 15 million year-over-year on the inventory. But I would say roughly two-thirds of that is cost rather than units.

Would you ordinarily be up sequentially?

From the first quarter?

In units, yes.

Not typically. We would probably be flattish to down a little.

So the inventory build, or the disappointment in inventory, is then primarily in motors because it doesn't sound like water heaters is all that out of sync, especially since you had to pre-buy last year, which presumably depressed inventory at quarter end?

The motors inventory is, again, up modestly. It's up about $4 million. And it's up about that same amount actually relative to the second quarter of last year. There we've had some progress in finished goods, but we've brought some materials in. Really the inventory in total went up about $8 million from the end of the first quarter. It was probably about evenly split between the 2 businesses.

Matt Summerville, KeyBanc Capital.

A couple of questions. First, Ken, can you talk about year-to-date in each one of the businesses on an average basis what sort of price increases you've implemented, and then how much of what you have tried to get through has actually stuck up to this point?

Sure Matt, we have talked previously -- I will talk about motors first. Back in February, as we began to see the steel cost come up and as of the some of the driver changes, to lodge (ph) there changed. So we saw steel and freight coming up. We put in overall price increase of roughly about the 3.5 percent. We followed that up in April, and those price increases became effective in June. On a more targeted approach, we went customer by customer, sort of motor category by motor category, and depending upon the steel and copper content of the motors, put a second round of price increases in place that were really tailored to the individual motor and customer, and those ranged from 0 percent to 8 percent or more. So those were the activities on the motor side.

On the water heater side, we talked about the steel increase we put in place that was really late March. That was in the 6 to 8 percent range to cover up on steel there.

Now, we have gone through a very volatile period here with three of our larger costs -- I mean steel, copper, and freight. And I guess the good news is that in large measure, by the time we got to the end of the quarter, it looks like our price increases are pushing against the cost increases. And as I said earlier, certainly in the second half of the year, if we have the same environment from a cost standpoint that we have right now, our price increases should offset the cost push. The unfortunate part is that we have got a very volatile situation, I think, on the commodity side.

If steel prices go up further, at least in the third quarter -- so, let's just talk about the back half of year. Do you still feel as confident today as you did back in April, as you did back in February, that you still have as much pricing power in both of your businesses?

What I said back in March and April is that our objective was to offset the cost increases, the price increases. We've accomplished that to date, and I still feel confident that we'll be able to do that.

Then lastly, you mentioned that the HVAC business was down 10 percent year-over-year. Can you talk about it a couple of ways -- first, what you saw from residential and what you saw from commercial? And then also, if you exclude the anticipated revenue rolloff from York, how much was your HVAC business down, excluding that issue?

Hang on a second. If you exclude that Goodman sale through Bristol that we talked about previously, you're probably talking about a decline of more 2 or 3 percent-ish rather than 10 percent-ish. And we've seen pretty good strength in the commercial. We've got a pretty flat residential performance in the second quarter.

Scott Graham, Bear Stearns.

I have just one question affecting both businesses. Could you tell us what the volume numbers were percent, up/down, in each segment in total?

Sure, as we said earlier -- let me talk about water heaters -- the residential unit volume was down in the 10 percent range. That was not unexpected, and that was really more a reflection of the prebuy that occurred in 2003 in front of the flammable vapor launch in July of last year. Offsetting that, on the commercial side, the unit volume was up 8 to 10 percent. Again, we're seeing some strength in the commercial market beginning to emerge. And then, of course, we had China, where both -- where the unit volumes are up about 40 percent.

On the motor side, Scott, a discussion of unit volume really isn't that meaningful. I mean, as you know, we sell 35 million motors a year. And there is a very broad range in the price per motor, so really talking about the dollar impact on sales is probably the most effective way to talk about it. And we talked about that, where we have had a very good quarter on the pump business. That was up in the 17 percent kind of range. Our ventilation business is up in that same kind of 15 to 17 percent range. We talked about HAC being down. Distribution was up modestly, and that pretty much covers the board. I should also mention we had a good quarter for international business in the motor side. A lot of that was HAC equipment going to the Middle East.

Kieran Hurson, Midwest Research.

Just a question on the water business. Do you have a feel for what the disruptions cost was in actual dollars in the second quarter? And then do you have a feel for, given that they'll expected to be continuing, do you have an estimate for the dollars in the third quarter?

I would say the cost was in the 1 million to 1.5 million a month range. And our objective is to get that out by the end of the quarter. Now I'll acknowledge that was the same objective we had coming into the second quarter. We did get the efficiency levels, as I talked about just a little bit before. But then, they (ph) fell back down as we got into an imbalance. Again, same objective for the third quarter. We're running 1 million to 1.5 million a month in inefficiencies, and would like to, and we will get rid of it during the third quarter.

(OPERATOR INSTRUCTIONS) Michael Schneider, Robert W. Baird.

Just a follow-up. I guess looking at the water heater business, are you still manufacturing residential in the McBee plant?

We've continue to have a line there. We continue to manufacture small quantities as we grow more and more confident in our ability to make the residential heaters in Ashland City, we will be shutting that line down. I would expect that may happen here in the third quarter.

And then just switching gears -- I know this is a nuance, but the corporate expense line item for the year, Ken -- what is your model? I'm just trying to figure out what the run rate is.

Yes, we had historically -- historically being '01, '02 -- run about $24 million a year, about $6 million a quarter in corporate expense. We had a couple of one-time items last year that brought it down into the 20 or 21 million range. I am expecting this year we're going to have an upward drift of 2 to $3 million, primarily driven by the pension credit. And that's the biggest driver.

So you're looking at about 28 million?

I'd say 26, 27, 28 is probably not far off.

And then looking at the guidance now in the second half -- it sounds like the disruptions in Tennessee are still causing you some money. That's why maybe the third quarter guidance is a little light. But that also implies a big stairstep in the fourth quarter. Could you walk us through what it takes to hit the fourth quarter number? Because the stairstep function does look awfully big.

I mean, basically, what needs to happen -- Mike, you're right -- the driver in the third quarter is getting the efficiency levels up in the Ashland City plant, and is continuing to maintain pricing to offset the cost. This is Bob O'Toole. When that happens, both businesses will be in that 7 to 8 percent kind of returns in the third quarter. All that will retired (ph) water products to 8 percent is -- while we'll get it out during the third quarter, we're going to suffer some efficiency cost in the third quarter. So as we get to the fourth quarter, they should be in the double-digit kind of range.

So that's one of the stairsteps is just what you said -- improving the efficiency the Ashland City plant. The other piece of it is just getting firmer and firmer footing underneath us on the pricing side to offset the cost side.

But why would the pricing and materials balance change in the fourth quarter from the third quarter? Because price increases are in; if we assume steady-state and materials, third quarter and fourth quarter should look no different price versus materials.

Seasonally, we'll have more volume in the fourth quarter, and that always helps. I mean, this is a heavy manufacturing operation. We've got fairly substantial fixed costs. So that will also be a driver between the third and fourth quarter.

So if we look at third versus fourth quarter, the water heater division -- you said 1 million, 1.5 million a month in the added cost right now. So let's say $4 million of cost go away as you enter the fourth quarter. That's, I don't know -- 9 cents, off the top of my head, or 8 cents --

That's roughly about right.

That means you go from the midpoint of the range, 44 to 51. And so to go from 51 cents to what your guidance at the midpoint is, which is 57, in the fourth quarter you need an additional 6 cents in earnings. And that just comes from volume?

Yes; it comes from higher volume. Again, we're also working on the cost side of the equation. There's not a lot you can do about steel or copper. Those are commodities. There are some things you can do about freight. We have got some programs going there to also work on that cost. So most of it is volume. A little bit of it is continued cost reduction -- you know, especially in the freight arena.

Bob, maybe you can spend a minute from your view just on the changes in motors. I know Paul has taken over that operation. What changes has he made and what changes are you contemplating? You had a senior management change there, so there must be some ideas. Could you give us some color on that?

Sure, Mike, I'd be happy to. I think that the motor organization is really facing up to the challenges that they've got very well. And one of the big changes, I think, that Paul has helped with is to get the business moving quicker and aggressively facing up to some of the challenges.

The plants for the motor business are really humming, Mike, and performing extremely well. The biggest challenge we truly have had for the year is something we didn't expect, which is this big run-up and volatility in material cost. I think that the organization now has really accepted that challenge, and is working with our customers very well to try to get through something that neither they nor us like doing. I mean, it's a whole different set of comments and meeting that we have had for a long time. And I think they're going very well with it, Mike. So I'm very pleased. I think Paul's doing a great job with it. And I think the organization is doing a great job.

And could you update us on the status of motor manufacturing now? I saw the plants over in China, but I guess we still don't have a feel of whether you're on target, on budget for the moves to China that are scheduled for this year.

China is coming along well, Mike. As you know, you could break it into kind of three pieces. You've got our original plant, which is in Shenzhen, which makes some of our smaller motors. And they are really humming. We've been there now for about three years, and their production levels and productivity are extremely good.

The second acquisition that we made that we're putting our fan motors and pump motors and that kind of product into is coming up very well. They're on schedule. And as you know, a lot of their production really -- they're putting the capability and the customer approvals in now. And we really start significant production as we approach the end of the year.

The third acquisition, which really was just last December and January, in a way has more activity going on than any, and that's the acquisition of the hermetic operation there. And in a way, we are inundated with requests from customers and working with customers, Mike, on future business. So the timing of that acquisition couldn't have been more perfect, quite frankly.

Are there any moves of significance scheduled this year of production between any of the three geographies in motors?

Not of gigantic portions. You will see more production begin in the fourth quarter in the motor business in China as those lines come up to speed a little bit. But compared to all of the past years -- last couple of years, Mike, this is kind of piece of cake. I don't want to overstate it, but the truth is the plants are doing very, very well right now.

I will hold you to that. Thanks, guys.

Matt Summerville, KeyBanc.

Small question on cash flow -- what are you guys looking for as far as operating cash flow this year?

Matt, we're in the kind of 110 to 120 million range before CapEx.

And that hasn't changed, then -- is that right?

I think we had said around 120 on the last conference call. So I've maybe hedged downward by 10 million or so. But roughly, we're talking the same kind of number we were a quarter ago.

Okay. And then when do you guys see your residential HVAC volumes picking up? I mean, if you look at some of the industry data, it would suggest that we're seeing somewhat of a recovery there. And I guess you guys really haven't seen that yet. Can you talk a little bit more about that?

Our HAC business is kind of a combination of things that have happened. We see improvements in a number of accounts where we are at. We, of course, got affected by the loss at one of our customers of one of their accounts. We also have another significant -- in that one of our customers in anticipation of a labor contract last year and moving a product quite frankly took more last year and built up their inventory. And so on a year-over-year basis, they look down because now they are depleting that inventory. So as we look at our HAC business, we're in reasonably good shape in most of the accounts except for these couple of things that have happened.

If you look -- you mentioned the customer due to this labor contract built inventories last year. When does that comparison roll off? Was that a second-quarter issue, or is this something that persists through the end of the year in motors?

I would say -- and I believe I'm correct; Ken, correct if I'm wrong -- most of it is probably out by now, or will finish by the third quarter.

The only reason I would hesitate is I'm not sure that some of the buildup didn't occur in the fourth quarter of last year, making the fourth quarter comparison more difficult.

That's it -- I forgot about the comparison. I was thinking about inventory level rather than -- that's correct.

Okay, so then we'll be back to a more normalized level in the fourth quarter, but some of the prebuy occurred in the fourth quarter of last year.

Okay, and then with respect to the lost Goodman business, is there any more revenue rolloff from that in the back half of '04?

Yes, Matt, that was spread throughout the year -- now, it's a little bit seasonal, so we probably had more in the first half of the year that we'll have in the second. But yes, there's sales throughout the year that we formally had (inaudible)

Godfrey Birckhead, SBK Brooks.

Being (ph) the new kid on the block here -- if the problem is that your gross margin level -- and you hit about 20 percent in recent years, and you are doing that about now. What objective do you have longer-term, once you get this pricing versus cost under control?

We've talked in the past -- our targets really are to get the operating margins for the business up into a 12 percent kind of range.

How much of that -- I mean, will that be mainly improvement in the gross margin?

Most of that, I would say -- 75 to 80 percent of that is going to come from improvement on the gross margin side. We don't have, as you can see, a very big SG&A investment. It will get a little smaller as a percentage of sales, just because of the efficiencies of scale. But if we're looking for another 4 points of improvement in operating margin, 3 to 3.5 of those are going to come at the gross margin line.

Okay. Well, the reason I'm asking that is because if you look at just at the numbers, you see that your gross margin held -- I mean, as you said in your presentation. And the pressure on the operating margin came from the -- whatever it is, $7.2 million increase in the SG&A cost. I just wondered whether you had address that. I know you said something about that, but can you tell us why your SG&A expense went up to $7.2 million or 13.9 percent?

Sure -- about 3 of that 7 million is actually selling expense and logistics costs at our water products business. They've had a substantial increase, as you know, in the sales price. And selling and sales commissions tends to trail with that. The other piece of that is some of the issues we talked about from the shipping or the manufacturing efficiencies also tie up with shipping, and we keep logistics costs in the SG&A line.

So the shipping is part of that. Okay.

Yes, that is part of that. Probably the next largest driver is pension income.

Okay, so pension -- okay, so those are the costs there. And just a small little thing -- why did the other income account go from a $100,000 profit to a $300,000 loss this year?

In 2003, Godfrey, we had an income tax refund. And we had interest also associated with that. So that went into other income and expense.

(OPERATOR INSTRUCTIONS) Speakers, we seem to have no one else queuing up for questions. So please continue.

Well, thanks for joining us this morning. And we look forward to talking to you again in October.

Thank you. And ladies and gentlemen, this conference will be available for replay starting 12:15 PM Central time today and running through July 16 at midnight. (OPERATOR INSTRUCTIONS) That concludes our conference for today. Thank you for your participation, and for using AT&T Executive Teleconference. You may now disconnect.