賓士域 (BC) 2008 Q1 法說會逐字稿

Good morning, and welcome to Brunswick Corporation's 2008 first-quarter earnings conference call. All participants will be in a listen-only mode until the question-and-answer period. Today's meeting will be recorded. If you have any objections, you may disconnect at this time.

I would now like to introduce Kathryn Chieger, Vice President, Corporate and Investor Relations. Thank you. You may begin.

Good morning and thank you for joining us today. With me are Dusty McCoy, Brunswick's Chairman and CEO, and Pete Leemputte, our CFO.

Before we begin our remarks, let me remind everyone that during this call our comments will include certain forward-looking statements about our future results. Please keep in mind that our actual results could differ materially from expectations as of today. For the details on the factors to consider, please look at our 10-K for 2007, which is available upon request, or by going to our Web-site at brunswick.com.

We appreciate your taking time to be with us this morning, and given that we are in the busy earnings reporting season, we will try to keep our remarks brief and wrap up the call in about 45 minutes. Now I'd like to turn the called over to Dusty.

Thank you, Kathryn, and thanks to all who have joined this call today. As most of you have already seen, we've reported earnings of $0.15 per share for the first quarter, down 61% from the $0.38 we earned in the first quarter of 2007. There are a few significant puts and takes in these figures that Pete will detail in a minute. But as you will see, even excluding these items, this is solid financial performance, given the difficult economic conditions impacting our consumers and the resulting very weak marine markets we are facing.

Preliminary industry reports show that retail demand for boats fell by about 17% in the first quarter compared to 2007. As we've seen for the past year, the decline is more pronounced in the fiberglass segment at 20% than it is in aluminum, which is down 13%. I'll give some more color in a few minutes, but by any measure, the U.S. marine industry is experiencing an unprecedented downturn, driven by adverse economic conditions.

Against this setting, our financial performance is very good in this quarter. This is due to the remarkable work of my 26,000 fellow employees at Brunswick, and I thank each of them for their outstanding performance.

I'll now turn the call over to Pete, after which I will wrap up our prepared remarks this morning with further details about the market, along with some comments about our continuing efforts to position the Company for the ultimate marine recovery.

Thanks, Dusty, and good morning, everyone. As Dusty just mentioned, our earnings this past quarter stood at $0.15 per share, down from $0.38 in 2007. There are a number of factors outside of our usual operating performance that affected the year-over-year comparison, including two divestitures, restructuring charges and special tax items. Let me first review these briefly.

In the quarter, we sold our 50% interest in NBK, our Japanese bowling joint venture through our partner Mitsui. NBK sold bowling products to the Japanese market and operated 14 bowling centers there. The inherent value of this business was in retail real estate, not profits from ongoing operations. And as a result, we felt it was best to liquidate our investment, while establishing new, independent distribution for bowling products.

The transaction resulted in a $0.10 per share gain during the quarter. Most importantly, it brought in $40 million in gross cash proceeds, $37 million after all costs for the transaction and taxes. We were able to mitigate most cash taxes on the sale using capital loss carryforwards associated with last year's divestiture of Brunswick New Technologies.

We also recorded a $0.07 per share loss in the first quarter from the planned sale of Baja, a performance boat brand, to Fountain Boats. The combination allows for both brands to achieve greater scale advantages and production. We have signed a letter of intent, and expect to close in the second quarter, with a further $0.03 to $0.05 per share loss to cover severance and closing costs.

Consideration from Fountain will be in the form of a new supply agreement, whereby Mercury will continue to sell engines to Baja. These engine sales are profitable for Brunswick. Please note that almost all the Baja charges are non-cash.

Excluding the impact of the NBK and Baja transactions, earnings totaled $0.12 per diluted share in the first quarter. That compares to $0.35 last year, excluding $0.03 in special tax items.

Beyond the divestitures, we also recognized restructuring charges of over $13 million, or $0.09 per share, in the first quarter compared to $0.06 last year. The $13 million is composed of severance costs, asset impairments and other plant closure costs. In total, about two-thirds of these pretax restructuring charges are cash costs.

Also note that roughly 40% of the $13 million was incurred by the Boat Group and another 40% at Bowling and Billiards. Both Mercury and Corporate each accounted for about 10%.

Overall sales in the first quarter fell by 3% to $1.35 billion. Revenues from our domestic businesses were down 10%, led by a 13% drop at our Marine operation. While we posted domestic sales growth at both Life Fitness and Bowling & Billiards, we saw sharp declines across most of our consumer-oriented businesses. At Life Fitness, U.S. consumer equipment sales with specialty retailers fell by 30%, while at Billiards, sales were off 22%. It was commercial equipment at Life Fitness and our bowling retail and bowling products businesses that accounted for the U.S. sales growth of the two non-marine segments.

Partially offsetting the U.S. decline was 11% top-line growth in markets outside the U.S.. The weak dollar was the biggest driver, but higher shipments were also at work. Given increased exports from the U.S., it has proven difficult to book both containers and deck space for the shipment of our products overseas in recent months. That will prove critical to maintaining international sales growth as we move through 2008.

In the first quarter, 39% of our sales were outside the U.S. as compared to 34% last year.

Operating margin stood at 0.8%, down over 300 basis points versus the first quarter of 2007. Gross margins fell by 170 basis points. Loss on disposals, restructuring and impairment costs added another 105 basis points to the margin drop. And operating expenses measured on a percentage of sales basis were up by about 25 basis points.

About half of the gross margin decline measured in percent of sales is attributable to lower fixed-cost absorption at our Marine businesses. Production was down in excess of 20% on a unit basis for our key fiberglass boat brands and for sterndrive engines. The remainder of the drop in gross margins is due to a number of factors.

There was a mix shift toward lower-margin outboard engines and outboard powered boats, along with higher freight costs on ever-increasing fuel prices. You may recall that we saw a much sharper decline in the outboard boat and engine businesses back in 2005, when the current marine downturn began. Sterndrive engines and the fiberglass boats they power have been on a steeper decline in the more recent past as the recession kicked in for larger and more expensive boats.

Operating expenses, excluding restructuring charges, while up slightly on a percentage of sales basis, actually were down by $3 million in the first quarter. After taking into account a bad debt charge at our bowling products business and the impact of the weaker dollar, spending fell by 4% versus 2007. Excluding inflation, real spending was down by about 7%. Lower variable compensation accruals were one factor, but our cost reduction efforts are also at work. We will continue to take action to reduce spending in this difficult market environment.

From an overall perspective, I should mention that price increases did not completely cover inflation in raw material, labor, medical and overhead costs, also contributing to the operating margin's degradation.

Taking a quick look at our segment results, you can see that the Boat Group suffered a pretax loss of just under $15 million in the quarter. The Baja divestiture, along with restructuring charges, reduced earnings by about $14 million. Lower sales volumes and unfavorable fixed-cost absorption also played a key role.

Revenues fell by 9% as we continue to reduce production to drive down dealer pipeline inventories. The inventory decline in retail units limited further progress, however, as pipelines stood at 35 weeks, up one week versus the prior year. Importantly, though, dealers had 2,800 fewer boats at the end of March compared to last year.

Higher inflationary pressures also affected the Boat Group's profits, as did higher R&D spending for new and larger models, although the impact was softened by reduced discounting at several brands compared to the prior year.

Mercury saw operating margins drop by 60 basis points to 5.5% on a 1% drop in sales. While domestic sterndrive revenues were down double digits, international engine sales grew by 12%, and now account for 43% of Mercury's total business. This factor, along with the greater concentration of parts an accessory sales, drove the lower decline in Mercury's revenue versus the Boat Group.

In our Fitness segment, profits were flat on a 3% sales increase, a slower growth rate than we had posted over the last few years. As I mentioned earlier, the 30% drop in the U.S. consumer equipment sales was the primary driver. Excluding the domestic consumer business, Life Fitness sales were up 9%, led by U.S. commercial equipment shipments. We have seen great acceptance of new products, most notably the Elevation treadmills and crosstrainers, and we will be launching new bikes shortly to complete our new cardio lineup.

Finally, at Bowling & Billiards, sales were up 7%. We saw double-digit growth on the timing of shipments at bowling products and 9% growth at our retail bowling operations, with the addition of two centers compared to the first quarter of 2007. As I mentioned earlier, lower billiards sales partially offset these sales gains.

Despite the growth in revenue, operating margins fell by 700 basis points to 0.8%. Restructuring expenses, which included impairment and other charges to close our bowling pin plant in Wisconsin, along with the bad debt charge for bowling product equipment, caused the drop. Excluding these factors, operating margins would have been 8.4%.

Turning our attention to the balance sheet and free cash flow, it's clear that we have retained our strong financial position and excellent liquidity. We ended the first quarter with a cash balance of $267 million, up from $204 million a year ago. Meanwhile, our debt-to-capital ratio of 27.6% remains at historic lows as seen over the last decade.

We saw free cash outflow of about $60 million from continuing operations during the quarter, a normal seasonal trend, but a bit worse than the $53 million outflow in 2007. Reduced sales and earnings are obviously an important driver.

Included in our free cash flow this year is the $37 million in net proceeds from the sale of our interest in NBK. But let me point out that in the first quarter of 2007, we received a $13 million payment on notes we carried from a 2001 divestiture and a net tax refund of $20 million associated with overpayments made in 2006. So the favorable cash flow impact from the NBK divestiture is largely offset by different non-recurring items from 2007.

Working capital increased by $137 million in the first quarter compared to $132 million last year. The key factor is the timing of the Company contributions to employees' profit-sharing accounts. Effective as of January 1, 2007, we changed our plan from funding on a continual basis throughout the year to making one annual contribution in the first quarter of the following year. So we saw an incremental cash outflow of approximately $35 million in the first quarter of 2008, leading to unfavorable working capital performance year-over-year. Excluding this factor, the working capital build would have been $102 million, $30 million lower than in the first quarter of 2007.

Working capital builds are a normal seasonal trend at this time of year, with receivables' growth from international marine sales and boat and engine inventory builds in advance of the current season. Importantly, inventories and receivables for our marine operations actually grew at a lower rate versus 2007, producing a favorable variance in free cash flow of $32 million. So we have made progress in spite of the weaker marine market.

That being said, we have more work to do with inventories, which stood at $984 million, an increase of $39 million versus March of 2007. Mercury's inventories are up over $20 million, and all of that growth is attributed to operations outside the U.S.. While some is the result of the weaker dollar, we will need to work this down and will be doing that in the coming quarters.

Also, we have $20 million in higher inventories at Hatteras. Three large boat deliveries for international customers got delayed at the end of March due to the difficulty in securing overseas shipment, as I mentioned earlier. You will also note that we have higher than desired inventories for consumer products at Life Fitness, which will come down as we have reduced orders from Asian suppliers. Inventory reduction remains a key focus for us this year.

Capital expenditures of $28 million year to date are down $12 million, or nearly 30%, versus the prior year. The reductions largely come from our marine businesses. On a full-year basis, we currently anticipate capital spending of $155 million, although we likely will increase funds available for land purchases for additional Brunswick Zone XL bowling centers. The decision on these incremental investments will be made once we secure outside financing for new properties, likely through sale leasebacks on existing bowling properties.

Depreciation and amortization expense for 2008 is forecast at about $190 million. You will note that we did not repurchase any stock in the quarter. Given the current credit market volatility and the uncertainty in the overall economy, we will continue to build cash balances.

Before turning the call back over to Dusty, let me comment on the 48% effective tax rate seen in the quarter. This was largely influenced by the gain on the NBK transaction. While there were minimal cash taxes with the deal, as I mentioned earlier, we recognized a 54% tax rate for accounting purposes. Excluding the NBK and Baja divestitures and our restructuring actions, the effective tax rate stood at 33% in the first quarter. That will drop later in the year if Congress extends R&D tax credits.

Now back to Dusty.

Thanks, Pete. Let me begin by adding a bit more detail on trends that were seeing in the marine marketplace. I noted earlier that fiberglass retail boat demand fell by 20% in the first quarter. This is based on preliminary industry boat registrations, as the data for the month of March only includes 24 states which cover about 55% of the market. But the trends going into the retail selling season are not promising, in our view, by these statistics.

Within the fiberglass category, the most important and profitable segment for Brunswick is fiberglass boats powered by sterndrive and inboard engines. Industry data shows that retail registrations in this segment were down 24% in the first quarter. While no region of the country was immune, the large boating states of Florida, California and New York were down between 24% and 50%.

If there's a bright spot in all of this, it is the fact that we have gained significant market share in the important fiberglass category and have done so without having to discount product at the levels we were doing last year.

As Pete mentioned, our production of fiberglass boats is down over 20% in the first quarter. Given these market conditions, we will continue to cut production versus 2007 in the second quarter. All this speaks to the need to continue pursuing the efficiency gains that accrue to Brunswick as the marine market leader and as a result of our often-stated strategy.

We closed four boat plants last year and have announced the closure or mothballing of three more in the first quarter. Further closures are likely. As we close plants, we consolidate boat production in fewer production facilities, and we're now manufacturing multiple brands in several of our plants.

While we would be doing this to attain a smaller, more flexible manufacturing footprint regardless of market conditions, lower volumes permit us to accelerate implementation and move faster.

Gaining greater efficiency by changing our manufacturing footprint has not been limited to our marine operations. Earlier this year, we announced the closing of our bowling pin plant in Wisconsin and we're now outsourcing pins from another manufacturer.

As we mentioned earlier, we exited the performance boat market, while maintaining our profitable supply of racing engines. We are asking ourselves, does the steep decline in real disposable income, competition for leisure time and other factors mean that demand in other boating categories will be permanently altered? We're also asking ourselves whether the competitive structure in certain of our marine businesses precludes attainment of acceptable profitability. If we so conclude in either case, we will exit targeted brands in our marine portfolio to maximize profitability and shareholder value.

You'll see us take further restructuring and cost reduction actions as we move through the year. As Pete mentioned, restructuring costs totaled $13 million in the first quarter, excluding the Baja divestiture. Based on our announcements to date and activity already underway, the full-year impact will approach $40 million. Any new actions may drive restructuring charges even higher, but of course will generate a leaner, more efficient organization.

Cost reduction from productivity improvements are important focuses for us. We have aggressive internal targets that we will achieve and exceed over the next several months. However, we cannot "cost cut" our way to prosperity. There is potential for growth in segments of the recreational marine industry and in the fitness and entertainment industry even in these difficult economic times.

It is important, then, that we also focus on growth, both in the near- and long-term. We are moving faster in the growth-oriented marine segments and are redirecting our R&D dollars and talent to accelerate this activity. In normal market conditions, new product is an important driver of growth. Under current market conditions, new product takes on an ever-increasing importance.

As those of you who follow us know, we focus significant resources on developing a uniform product development process across the Company. We have continued to invest in new product development, and with these investments and robust processes, we have the best-ever new product coming out of our development pipeline.

We continue to pursue growth outside the U.S., and will build infrastructure and improve processes for longer-term global growth. We continue to benefit from investments in leading-edge fitness equipment and Life Fitness's strong global market position. We think there continues to be good opportunities in this segment as we grow this business.

And our Brunswick Zone XL retail bowling centers provide excellent investment returns in the historic heart of our Company. Our rate of Zone XL openings will continue to increase. So despite this unprecedented marine market downturn, we continue to execute on our strategy and have positioned Brunswick to fully benefit when the economy recovers.

With that, we will be happy to take your questions.

(OPERATOR INSTRUCTIONS) Tim Conder with Wachovia.

Thank you, operator. First of all, guys, it's tough out there, but you are doing a good job, so just keep plugging away.

Thank you, Tim.

A couple of questions. Pete -- and I apologize if I missed this in your commentary -- could you state again what the ForEx benefit was in the quarter, both on sales and potentially the EBITDA line? And then, again, also if I missed in your commentary, I apologize -- I did not see it in the press release, though -- but any comments on the weeks on your channel inventories on the engine side?

Yes, first with regard to FX impacts on sales. If you look at the 11% growth that I mentioned, a little bit more than half, not much, was driven by FX, and the remainder was driven by performance. In terms of the impact on EPS quarter over quarter, it was about $0.02 favorable from foreign exchange impacts.

I'm sorry, Tim, your second question?

Relating to the weeks of inventory on the unit inventory on the engine side.

Yes, we are not reporting that anymore. And really, the reason why is it's difficult to track engine pipeline. Unlike boats, where we are selling to dealers and we actually keep records of how many boats are still sitting in our dealers' hands, on the engine side, we sell to OEMs and they export product in many cases. And since engine pipelines are based on warranty registrations, it is very common that outside the U.S. we never see that.

So, particularly over the last couple of years, as export activity has grown across the industry, it is more difficult for us to track it. But the best data we would have says that we're in okay shape overall and we are probably up one or two weeks to roughly 29 weeks or so versus last year, on an adjusted basis.

Okay. And Dusty, I think you mentioned that, again, we will see further cuts and probably likely continuing to what we've seen in that 25- to 45-foot segment, which entails more of the inboard engines.

Certainly there, Tim, but we may see it in other places. We are trying to be very on top of the market; we are staying in close contact with our dealers. And frankly, Tim, if we begin to feel softness anywhere, we are trying to pull production down rather quickly. As we go into the selling season, it's important we have enough product there for consumers, but we also don't want to end the selling season with too much. So we are (inaudible) and doing the best we can.

Okay. And two other questions here. Any comment on how things are going with Cummins -- talk how that joint venture operations performed during the quarter. And then one other follow-up.

Cummins joint venture is performing magnificently. Probably one of the best joint ventures we've ever entered. In my comments, Tim, I alluded to redirecting of resources and talent to growing segments of the marine market. That is one place where, in conjunction with Cummins, we are very focused. We believe there is great opportunity for us in smaller and larger sterndrives and in, for instance, new diesel sterndrives, etc., etc., all of which are really growing segments of the market. Cummins has been a great partner and the joint venture is doing very, very well.

And good double-digit growth in profits in the quarter. That shows up in other income.

Okay, okay. And then finally, are we sort of at the point or not to where additional incentives or promotions to dealers to help move current and noncurrent inventory -- is that effective or is it just more effective just to cut back the production? I mean, again, what is already in the field is what is in the field. But is throwing more dollars after it helping move it or really not?

Frankly, it depends on the market and types of product. We do this on a dealer-by-dealer basis and work with dealers in a particular market to understand what will help move product. If discounting will, we would. But if you notice our numbers, we are not doing any abnormal or out of ordinary discounting right now, because it doesn't help in most market; the buyers just aren't there. So the best governor here is not getting the boats into the dealerships.

Okay, okay. Thank you, all.

Ed Aaron with RBC Capital Markets.

Thanks. Good morning, guys. A couple of questions for you. First, did I hear you correctly that you are planning -- is it $40 million of restructuring this year?

Yes, excluding the Baja divestiture, it should be about $40 million based on actions that we've taken to date and activities that we've already planned. It's very possible, and I would say probably likely, it's going to go even higher than that.

And that is not net of the one-time gain that you had this quarter, right?

No, it is not net of that. That excludes any of the divestitures.

Okay, thanks for clearing that up. I wanted to ask a little bit on the timing of any additional changes in production. In a typical year, I think dealers often wait until the model year changeover to adjust their order activity, if they are uncomfortable with their inventory levels. This is obviously not a particularly normal year, as you know.

So, just wondering, just thinking about the second quarter -- and I know you don't give quarterly guidance, but would you expect the rate of decline in your year-over-year production to accelerate for the next quarter, just kind of given the unusual dynamics that are in place this year?

The way we are saying it, Ed, is our production was down slightly over 20% for sterndrive engines in the inboard/outboard -- sorry inboard diesel drive boats. We think that will be lower in the second quarter because, as I said, we've seen the market be down around 24% in those segments, and we want to get down under market performance. So, yes, it is going to be in excess of 20% in that type of quarter. Then we will have to see for the rest of the year as we see what happens with the coming season.

Yes, we are taking more outages in the second quarter than we normally would.

Okay, thanks. And then obviously earnings are down significantly, just given the environment. But the negative -- call it incremental margins I guess in the marine business are actually quite a bit improved in Q1 versus what you had reported in the second half of last year, if I back out the restructuring charges. Would you just chalk that up to execution and some of the cost-cutting initiatives kind of coming to fruition, or are there other factors that might be involved that I'm not catching there?

There certainly is an impact from the cost reduction activity pretty much across the board in our marine businesses. But the other factor there too is we are comparing off a base that was down in terms of production versus the prior year. First quarter of '07 versus fourth quarter of '06, there has been a steady sort of decline. So, that also played at work to a smaller extent.

I think we can say with great confidence that many of our plants are performing significantly better than they have performed in prior years. Significantly better.

Okay. Helpful, thanks. And then just one last question, if I could. From a much longer-term -- call it three- to five-year perspective -- and your efforts to reduce your footprint size over time, what is the best way to think about in relation to the overall size of the company what the footprint will look like in several years? I know it is a tough question to answer at this point. But if I'm thinking about it safer, maybe like looking at your PP&E as a percentage of your sales, which is somewhere close to 20% right now, what you think that, as an example, might look like much further down the road? Or is that not the right way to think about it?

That is one way to think about it, and I couldn't argue with that way. I think it is just a bit premature for us to be telling you about that. As we get further through this year and do a little more strategic work, I think we will be prepared to talk about that.

Okay. Good luck with the rest of the year. Thanks.

Joe Hovorka with Raymond James.

Thanks, guys. A few quick questions. First, the decline in corporate expense in the quarter, what was that and is that sustainable for the rest of the year?

Part of it was driven by the timing on incentive accruals -- that was probably about half of it. And the rest was driven by cost reduction activity.

I'm taking the cost reduction part is sustainable and the other accruals are just timing?

The cost reduction part is sustainable. Got to be careful to because there is always some noise that goes through it with (inaudible) the guidance. Because that also includes some activity that we do with old, discontinued operations. So I don't want you to look forward and say it's going to be there every quarter, but certainly you should see progress over time with even additional cost reductions.

Okay. It may be too early to answer this yet, but production cuts in the model year '09, is that -- will we see them?

I think it is too early to call that one, Joe.

Okay. And then have you heard anything anecdotal coming out of the dealers regarding retail credit availability? Has that changed at all in the last three months or six months, whether from it actually just being available or tightening or loosening credit standards?

Yes, it still generally available, Joe. What we have seen is there is some trend for some of the banks that are out there, if they would have taken a score of 740 in the past, they've ticked it up to 760. They are trying to, if you will, upgrade their portfolio. And they might be raising rates on lower credit scores. But it's still generally available out there to people that want to buy.

Okay. Any change in things like loan-to-value ratios as well or no?

Slightly. There has been a slight increase in some foreclosures. And when you look at the aging of receivables, for example, with Brunswick Acceptance, our joint venture with GE, there has been a slight increase -- not massive, but slight, when you look at boats that are sitting there for 12 months. The 12 to 18 month category has gone up a little bit, so it is something we are watching closely.

The 12 to 18, you are talking about the inventory on the dealer lots?

Yes.

Yes, okay. And then last question. You had been buying brands for many years in North America. And now from the press release, it seems like you want to shed brands. Can you comment on the change in strategy there, what is driving it, and will we see any of the brands that were purchased in the last six or seven years be part of that portfolio brand rationalization?

Let me go on the change in strategy. I wouldn't call it a fundamental change in strategy; I think it is more driven by a change in the market. It's clear that we entered some pieces of the market just before they began to significantly fall. And for instance, in the aluminum markets, which we entered in 2004, we began to see in late 2005 a significant decline in those markets, all driven by economic conditions. Those markets are down fundamentally -- production for those markets is down fundamentally about 50%.

So -- and I'm not saying what we're going to do with those businesses, but I'm using that as an example, Joe. That -- the (inaudible) businesses in, we are looking at, let's say, on a long-term basis, will the consumer be back in those markets? If we make certain assumptions about cost of fuel, cost of food, cost of education, insurance, medical, whatever, all of which impacts disposable income. We are asking ourselves the hard questions about the ability of those consumers going forward to continue to participate in that segment of boating.

We also did some acquisitions in order to look for synergies across our marine businesses -- i.e. boats and engines. And I think what we are finding is our engine business, particularly our outboard business, is performing very well now. We have a great product lineup across the entire segment. And fundamentally, perhaps we don't need to be in those sorts of businesses, because our engine business is very healthy and has performed very well on a stand-alone basis, and we just don't need the transoms to support it.

So it's that sort of analysis, Joe, that we are going through. As to whether some of the brands we purchased in the last few years would be brands we could exit, the answer is clearly yes, we could exit them. And we are doing all that work right now.

Okay, so you're basically looking for places that you think that have structurally changed as opposed to cyclically changed --

Right.

Am I reading --? Okay. And that may or may not be some of the brands that you had purchased in the last several years?

We can work hard on cyclical changes and hunker down and take cost out, lower production, etc., etc. And you are exactly right -- it is those structural things that we're trying to make sure we understand and make good decisions.

Okay, great. Thanks, guys.

Chris Hussey with Goldman Sachs.

Good morning, guys. Question -- follow-up on the engine business. What has happened over the last couple, three years would you say that has maybe made your engine business been able to stand on its own more than what you thought back then when you were buying those brands to support it?

Full product lineup. We now have a four-stroke lineup that goes from 2.5 horsepower to 300 horsepower. We're the only manufacturer in the world now that has that complete lineup. We've got a great manufacturing footprint now in China and Japan. And in our facility up in Wisconsin, they're doing an absolutely magnificent job getting costs out, including productivity, and got a lot more to do and they know that. But they are clearly after it.

We've been gaining share nicely. Following the OMC bankruptcy in 2001, the market changed rather dramatically, and we needed to get good in four-stroke and we've done so. We've got great share position in the U.S.; we are very comfortable with that. Of course, that is where we had been attempting to pursue the strategy of marrying transoms with engines in order to make sure the engine business was healthy.

So, the business is a great business. It's going to perform well in the future. In fact, it's going to perform better as both the market improves and our folks up in Fond du Lac continue to improve their productivity, so we're very satisfied with that business.

And I would add that even on the sterndrive with MerCruiser, we are very optimistic as well about the Axius and Zeus products coming to market as we speak. We think those are going to be pretty game-changing product out in that piece of the market as well.

But I would imagine as you embarked on that strategy to add transoms that you had anticipated you would come out with a full productline and get to China and Japan -- Japanese footprints in place. Has anything happened to your competition, would you qualify, that has allowed you to be even better off today relative to your competition than you thought you would be when you were buying the transoms?

You mean in our engine business?

In the engine business, yes. Because again, what you mentioned -- I hear you and I know about that, and the now retired Pat Mackey has done a great job there. But you guys were telling us about that for a while. You would have anticipated that when you were buying those transoms, I would have thought.

Well, a couple of things went on. First, we needed to ensure we had volume to support the investment quickly. Now, against the engine competitors, I frankly -- we just have a lot better engines right now. Our Verado engines are a technological marvel. No one has approached the technology and performance of those engines. And in our cost position in the Japan and China plants in the smaller engines is unequaled. So the competition just hasn't kept up with us right now.

That is fair. Last question then is -- sticking with engines -- fuel is like $117, oil is $117 a barrel. It just seems to keep going up. What are you guys doing from a development standpoint at all to address a world in which maybe marine fuel is up $5, $6 a gallon on a sustained basis. Are you addressing that at all? Is there a Prius in your lineup in the future? You always wanted to be the Toyota of the sea.

I don't want to tell our competition too much, that is why I hesitated. Let me answer your question this way, Chris. Again in my prepared remarks, I talked about redirecting significant dollars and talent. And that is one of the places we are in the process of really -- of challenging and putting money on it. There is lot of potential there for us. And even today, with our existing engines, for instance with our Verado engines, we decreased fuel consumption by 30%, by doing some real great engineering work and tweaking those engines. And the engines that are out there now actually perform much better.

When we look at these pod drives, the hidden attributes in pod drives is they also are about 30% more fuel efficient than our normal sterndrives or the old V-Drives -- I will call them inboards. But looking around the corner, yes, we have some ideas and we've got a lot of work going on looking around the corner, and we want to be one of the industry leaders in doing that. So you will hear us talk about it more as time evolves.

Thanks very much, fellows. Good luck.

Hakan Ipekci with Merrill Lynch.

Thank you. Two questions. One is I know it's early in the retail season, but if the current trends persist into most of the retail season, would you anticipate your shipments to be up or down in the back half of the year?

I think the answer to that question is going to lie with what is the mood of the dealer, if you will, in the second half of the year. And it's difficult to predict that until you get through the season. Retail activity in the second quarter is going to be key to the inventory they are going to hold going into the second half.

If I can add to that, here is the way we are thinking about it. If there is hesitation on the part of one of our dealers to take product, then they ought not take it. And if we have any concern about building a product, we are not building it. And we think that is important for both our dealer network and ourselves as we go through this sort of downturn.

Okay. And the other question is again related to dealers. What is the health of the dealership network at this point? I mean, it has been a pretty rough time. Has there been an uptick in the rate of exits, bankruptcies? What are you seeing out there?

We are not seeing a pickup in the rate of bankruptcies and exits. Clearly, the entire industry is under stress. All of us who are OEMs are under stress and many of our dealers are under stress. We have very, very close contact with our entire dealer network. And for any dealer who is having difficulty in any particular market, we try to show up immediately with the dealer, work through a get-well plan and get through the difficult economic time plan with that dealer.

We have a few, but I would say a very few dealers, with whom we are working through those sorts of conditions with. I believe as an industry and our dealer network, as opposed to the early '90s, when I wasn't here and the early 2000s, our dealers are becoming much more savvy businesspeople. They are very focused on their inventory as a key gating item for the success of their business.

I think we've done a much better job in working with our dealers on controlling inventory. Our programs like our certification programs, our master dealer, ambassador, pro dealer, all the certification programs we've put out, help we and our dealers work together much better in order to keep them healthy.

So I think the partnering is really paying off now. And I'm at a personal level really proud of our dealer network. And I know life is tough. I think we're seeing very good partners with all of our dealers. We have surprisingly few dealers who are having issues.

I see. Do you think, given the severity of the downturn, some of these -- because I would have expected, given what has happened out there, that there would be more exits. And so you're thinking that some of the efforts have been delaying some of the weaker ones to exit.

I think -- you have to be careful too, because there is -- they have seasonality of cash flow just like we do. And they are going into the prime selling season right now. So, the fact is they are going into it with fewer boats than they had a year ago, so their inventory carrying costs are down, not to mention the fact that rates are down to some extent as well. And it will depend how the next three or four months moves in the marketplace. But at this point, that is not the scenario. And it is pipeline management. That is why Dusty said earlier, if we think the dealers don't need it, we are not shipping it to them -- and not producing it.

Okay, great. Thank you very much.

Laura Richardson with BB&T.

Thanks. Just had a couple of questions here, because I'm just trying to get a sense for how some of the restructuring is going to play out, and the earnings eventually. So, Dusty, I apologize if you said this in the beginning, because I missed the first couple of things you said, but did you say what inning we are in in terms of restructuring now?

No, I didn't.

Great question, Laura.

We are in the fourth inning.

Fourth inning, okay. Is that in terms of what you would want to change in manufacturing and sourcing, regardless of what was going on in the macroenvironment?

Yes.

Okay.

As I've said, the macroenvironment permits us -- or maybe put differently -- pushes us to move faster --

Right.

So we are working through the process we always said we would; I think our feet are just paddling a little faster.

Okay. That was helpful to hear. Thank you for saying that. Then, in terms of -- and I'm not trying to get into guidance at all; I'm just trying to understand how the economics are going to work for the business -- is it theoretically possible that once you stop having to cut production, then earnings can be flat to whatever was the previous period? Or would they even be better because of some of the restructuring you will have completed by that point, whenever it happens?

Laura, this is Pete. You know, for the last year or so, we've been saying how we have been producing at rates below retail demand. In the first quarter, just because we tend to say -- say produce -- we produce a little bit higher; that's just a normal seasonal trends. But the retail market fell a lot more in the first quarter than I think we believed going into the quarter. That's not exactly the case right now.

But as we continue to cut production, you will come to the point when you get the dealer pipeline inventories to the level that you want, and you should be able to, in theory, raise production to the level of retail. If you look at our historical trends, that is what happened in 2002 and 2003. We actually had higher earnings in our marine businesses than we did in 2001, even though the market continued to drop a little because of that bounce effect that you get. But it's way too early predict when that might occur.

Exactly, that is the $1 million question, I guess, or multimillion dollar question. Okay, thanks, guys.

-- this is the 12th straight quarter in which we have been producing under retail or attempting to produce under retail, and retail has been falling that entire time.

Yes, pretty amazing. I'm not going to ask you to predict when that is going to stop. So, okay, thanks, guys.

Steven Rees, JPMorgan.

Thank you. Just on the marine segments, it looks like the international business is still holding up quite well -- I think you said up double digits in engines. Can you just talk about which markets are driving this growth and how this is trending relative to what you've seen over the last few years, and if you've seen any volatility or slowing in any key international markets?

Pete and I will double team this. Latin and South America, great growth engines for us right now. Russia and other of the Far Eastern European countries are doing great. Seeing a bit of weakness in Scandinavia, and Western and Central Europe are growing slightly. And the Middle East continues to be growing well also. Is that helpful?

Yes. Can you just talk about -- in the boat segment, can you talk about what the international sales were up year-over-year? I think you said double-digit for engines, but I was curious.

Both Mercury and Boat group were probably up around that 11% average for the Company, within a point or two of each other.

Okay, but you haven't --

-- company average.

-- you haven't seen a significant slowing in any real key --?

No.

Thank you.

No. And in fact, as Pete mentioned, we are not getting some shipments we would like to be making overseas because we can't get space on vessels.

Okay. Great, thank you very much.

Hayley Wolff with Rochdale Securities.

Just a couple questions. First, on the commercial fitness side, are you seeing any signs that health clubs are delaying the upgrade cycle?

Generally, no. I would say at this point in time -- I mean, it is probably driven by the fact that we've got great new product out there -- that Elevation series on the Cardio side. And our strength lineup is doing extremely well, in addition to the Cardio.

Okay --

But it's a pretty -- I would tell you too, when we talk commercial, it's a pretty diverse business. I think if you had talked to us seven years ago, it would have been much more kind of clubs by themselves. Today, it's not only clubs, but it's hotels, it is the military, it's universities and professional athletic teams. And so we've got a bit more diversity there going on.

Now, you do see trends in some of these that are pretty positive, like with university health club construction, things like that. And the other thing, even with the clubs, you've got some brands like Lifetime Fitness, who is more on the high end, and you also have Club Growth on the low-end as well that are doing reasonably well. There is a number of club chains that have been established that sell memberships at reasonably low rates -- $15, $19. They may not have all the amenities like full locker rooms, etc., but they still carry excellent equipment. And we've done pretty well in that piece of the market too.

Okay, thanks. And can you just review the inventory? I think I missed some of the moving parts in the inventories. And where does Baja fit into that equation?

Overall inventories were up $39 million year-over-year. $20 million of that came from Mercury, all in the international marketplace. Some of it is driven by the weaker dollar, but more of it is driven just by performance. We do have more product sitting, particularly in Europe, than we want to have at this point in time.

The other piece -- another $20 million came from Hatteras. And there were three relatively large boats that did not -- and expensive boats that did not ship at the end of March because of difficulty securing ocean freight. And that was the main driver there.

And the other factor, we did see an increase at Life Fitness that was higher than we wanted it to be, particularly because of the consumer product. With that falloff in market is a very long lead time. We don't manufacture it; we source it from Asian suppliers. And we've shut down the supply chain, but it's going to take a couple of quarters to see the benefit of that roll through.

But we are shooting to continue to post inventory declines as we move through the rest of the year, and we would expect that our free cash flow this year from working capital reductions is going to be significantly higher than what we reported last year.

Is Baja -- Baja is in the first quarter number inventory?

A small amount; it's not that big. It wouldn't move the needle at all in terms of what you see.

Okay. And then last question -- or actually, two more questions. One is, is there any opportunity to ship more production over to China in the engine segment? And just looking at your basket of costs in a vacuum, what percentage increase are you seeing now year-over-year?

First, shifting more engine production over to China. Yes, it's always a possibility. But our plan over there is obviously very good. But we are quite pleased with our production facilities right now and the progress we are making.

Okay.

Yes, and in terms of our cost inflation, I would say on the material side, it is probably averaging out maybe 3% across the portfolio, with some of the benefits that we have from our global sourcing efforts offsetting it. And that 3% is probably a net number. Wage inflation has been running 3%. Benefits are going up close to 8%, 9%, 10%. So it probably is averaging out something around 4, I would say.

Okay. Thanks a lot, guys.

Eli Lapp with Morgan Stanley.

Thanks. You had mentioned briefly a sale leaseback transaction. I was wondering if you can give us some or detail on that, maybe timing, magnitude, use of proceeds.

Generally, just as background, if you look at our historical portfolio of roughly 100 to 110 bowling centers, it has usually been 50% owned, 50% leased. So the majority -- the vast majority of the new Brunswick Zone XL centers that are out there -- we have nine right now I believe -- all but two of those are owned properties. And they are much more expensive to build. They might run $11 million between land and construction and equipment cost.

So the sale leasebacks that we are looking at are going to probably include a couple of those, as well as some of the other centers. And it's not so much -- what drives what centers we will sell and do leasebacks on is really going to be driven more by tax factors than anything else, because there is a potential for taxable gains; we want to try to minimize that.

I think the proceeds that we are looking at bringing in could be in the $20 million to $30 million range, that we'd want to put back into that business. Also, we're looking at some other financing sources as well, just build to suit and leasing new facilities moving forward.

Okay, thanks. I'm sorry, one more question. You had mentioned earlier you expect your free cash flow to be significantly better than last year.

No, I didn't say that. I said that with regard to working capital.

Okay.

You would see a positive trend in 2008 versus 2007 in terms of cash brought in from working capital production.

Very good, thank you.

That is all the questions we have on our monitor. As usual, all the questions were great. We thank everyone for participating with us and having an interest in us. And we will go and get back to work. Thank you.

Take care.

Thank you. That does conclude today's conference. Please disconnect at this time.