Belden Inc (BDC) 2006 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to this morning's Belden conference call. Just a reminder, this call is being recorded. At this time you are in a listen-only mode. Later we will conduct a question and answer session. [OPERATOR INSTRUCTIONS] I would now like to turn the call over to Ms. Dee Johnson, Director of Investor Relations at Belden. Please go ahead ma'am.

Thank you Stephanie. Good morning everyone and thank you for joining us today for the third quarter earnings conference call at Belden. With me here in St. Louis today are John Stroup, President and CEO of Belden and Gray Benoist, who in August became our Vice President, Finance and Chief Financial Officer.

I hope that each of you has a copy of our press release. It can be found on our website, belden.com, or if you would like a copy faxed to you, please call Linda at 314-854-8000. For podcasting our conference call, so if you want to listen to this again later, you can download it from our website.

During the call today, management will make certain forward-looking statements. I would like to remind you that any forward-looking information we provide is given in reliance upon the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995. The comments we will make today are management's best judgment based on information currently available. Our actual results could differ materially from any forward-looking statements that we might make. However, the company does not intend to update this information to request developments after today and disclaims any legal obligation to do so.

Please review today's press release and our annual report on Form 10-K for a more complete discussion of factors that could have an impact on the company's actual results. Also, during our review we'll discuss adjusted results. Please see the adjusted operating results schedule attached to our press release for a reconciliation of adjusted results to GAAP results.

This morning John will discuss the events of the quarter. Then Gray will review the third quarter financial results including some balance sheet and cash flow items. John will speak about our outlook for the remainder of 2006. And then finally we will open up the line for questions.

So at this time, let's turn to our President and CEO, John Stroup. John?

Thank you Dee. We were pleased with the results of the quarter. Several of our strategic initiatives are now well enough along that we can see the effects in our results.

When we look at the business and the results, two things about performance emerge. On one hand we have a group of businesses that are quite profitable performing well in their markets. We want to maintain their profitability while growing those businesses. On the other hand, we have some businesses that have struggled with profitability. Our goal for those businesses is to expand margins, always with an aim to increase operating income. We're willing to sacrifice some revenue to achieve that goal. And that's what we see playing out in our third quarter results.

The improvement in our operating income to more than 11% of revenue excluding charges was the result of improving profitability in some of our historically less profitable business units while our good performers continue to benefit from strong market positions.

On a consolidated basis, as a result of some of our pruning of unprofitable sales, our year-over-year volume increase came from improved mix and pricing. However this varies considerably by segment.

Our performance in Europe is an example of this. Our adjusted operating income in Europe has risen to 7.3% for the quarter, if you set aside the severance and asset impairment charges of $7 million as we discussed in our September 20th press release. I'll talk later about how these actions will help us improve our future performance.

Our European division has been at the forefront in analyzing the product portfolio and our profitability by product and customer and making changes necessary to raise the profitability of underperforming products. This work, combined with aggressive cost reduction over the past two years, has brought our European profitability much closer to the near-term targeted level of 10%. We gave up about 5% of aggregate unit volume year over year in Europe but our operating income increased four fold excluding the aforementioned charges.

There's still a lot of work underway to improve our cost structure in Europe through our regional manufacturing plan. As you know we announced further restructuring plans including expanding our outsourcing to the manufacturing of braided core for coaxial cable from our Venlo, Netherlands plant. This will make our cost structure more variable and will enable us to subdivide the real estate in Venlo and reduce our footprint in that location.

At our Sweden plant, which we announced last spring, our intention to close, we ceased manufacturing operations in the quarter and expect to be fully exited from the manufacturing facility by year end. We will however maintain a small engineering, sales and distribution operation in Sweden.

In Hungary, we took an impairment charge for one sale of data cable manufacturing equipment that became excess as the result of our product portfolio work. We are not yet where we want to be with our European business, but I am pleased with the progress that we are making.

As you may recall from our comments regarding our fourth quarter 2005 results, we were not pleased with the results of our networking category. Now for the third quarter in a row, we got sequential improvement in operating income in this category. An example of our progress is Mohawk, a networking cable business within the specialty segment. Here as in Europe we made some very deliberate product positioning and sales incentive changes that have affected our operating results in a positive way. You see that reflected in higher specialty segment margins.

In fact, we can now conclude that across all segments in the networking application, we have succeeded in raising our profit contribution significantly both year over year and sequentially through 2006. We have given up share on lower spec, more commoditized products and turned our attention to the application of higher end systems.

Turning to some other aspects of our strategy deployment, we introduced the Belden Wireless Solution in September. We formed a technology and supply agreement with a small private company who has leading edge technology for wireless LANs with blanket coverage suitable for the triple play of voice, video, and data. The products are so easy to install and configure that our Belden-certified installers will quickly be able to add this wireless component to our network solution offerings wherever they are sold.

Although the revenue potential from this launch is relatively small near term, the significance is great and that we have extended our signal transmission capability to the air and we have increased the attractiveness and capability of the overall Belden network offering.

Today we also announced that we made a small equity investment in this partner, Extricom, which gives us a non-voting presence on their board of directors and demonstrates that wireless networking is an important part of our future as a signal transmission solution provider.

We added to our talent pool this quarter by hiring Fred [Vandehar]. Fred is joining Belden as Lean Director, reporting to our Global Vice President of Manufacturing, Dick Kirschner. Fred has an extensive background in lean and six sigma, notably at one of my previous employers, [Danaher], a company whose application of lean we greatly respect. So I have very high expectations for his success in leading the implementation of lean for us across Belden.

We continue to focus on emerging markets. Asia is our smallest segment, but we are pleased to show 46% growth in revenue year over year. We've improved our sales coverage this year in places like Indonesia and Thailand and we are investing in the foundation necessary to capture more of the available Pan Asia market. But we still have a long way to go toward realizing our potential in Asia and we continue to evaluate many options to harness the profitable growth that we know is available there for our strong Belden brand.

Speaking of the Belden brand, during the third quarter we introduced a new look for the Belden product brand. We executed a well-managed launch and our fresh new look has been well-received by customers and channel partners. At the same time, we made a transition in our corporate identity to refer to ourselves as Belden rather than our post-merger name of Belden CDT. It's simple and powerful.

Another major milestone in the quarter was the addition of Gray Benoist to our senior leadership team. We spent nearly ten months recruiting him for this role and it was worth the wait. Gray is a dynamic financial executive and will bring process and leadership to our company during this important time in transformation.

And now I'm going to turn the call over to Gray Benoist, our CFO. Gray?

Good day. Thank you John. That was a very nice introduction, greatly appreciate it. I'd like to take just a moment if I could to introduce myself to those that are on the call and tell you a little bit about why I am here. I spent 27 years with Motorola and while you can imagine I had many, many experiences, there are two things that that experience stand out as reasons why I'm a good fit for Belden at this stage in the business.

First there's a strong process orientation at Motorola. Motorola's the birthplace of U.S.-based six sigma quality, a total customer satisfaction process connects quality improvements. And while Motorola wasn't perfect in their execution, the experiences that I gained and many others in good process that allows you to be innovative and perform better are clearly learned.

Second at Motorola I learned and served in some phenomenally high growth businesses like the early days of cellular, both on the infrastructure and the handset sides of the business. So I believe I gained some very germane experiences in how to organize and partner and lead for growth with the transformations that go with it.

I'm very honored and I'm delighted to be part of Belden and the CFO of this organization and to be working with John and the board and the other members of the management team. I see a tremendous opportunity here. Many of the same things that drew John to Belden, fantastic brands, a reputation for outstanding quality and exceptionally strong balance sheet, I will note that will be necessary for us to execute our vision for the company, and internal controls environment and the ethical underpinnings that are of a substantial nature.

I'm looking forward to meeting many of you in person over the next several months as Dee, John and I participate in conferences and discussions with you in more detail.

Let's turn to third quarter results. Beginning with the consolidated statement of operations, revenue for the quarter was $385.6 million, an increase of 21.8% year over year. Favorable currency translation contributed 2.3% year over year growth. So resulting organic growth was 19.5%.

Aggregate volume contracted slightly as we executed the portfolio adjustments John described earlier. So in net numbers, revenue growth was driven by price and favorable product mix. Each of our businesses has responded to the rising cost of raw materials with managed price increases over the past 12 months. And generally, our management of copper's impact on our business has developed into a much stronger company competency for us now and into the future. I will comment that copper while remaining volatile has stabilized reasonably since May albeit still in the $3.50 per pound range.

Sequentially revenues declined 5.9% due to seasonality in Europe, the portfolio actions, and some Q2 pull-in of sales with customers and channel partners and in anticipation of the price increases we deployed. While adjusted operating profit improved by 120 basis points sequentially.

We incurred $7.7 million of pretax charges in the quarter for asset impairment and severance. And the third quarter of 2005, we had charges of $9.7 million for asset impairment, executive succession and merger-related costs associated with Belden CDT operation.

To provide you with a better sense of operational execution, I would like now to focus just on the adjusted results without these charges for the remainder of my remarks.

Gross profit was $94.3 million or 24.5% of sales in the quarter. This is a 110 basis point improvement from a year ago, again driven by portfolio management. Our factory footprint remains much too broad and actions in manufacturing rationalization as well as the derivative benefits included scaled overhead absorption will follow as our North American and European actions take hold.

Selling, general, and administrative expenses were 13.2% of revenue compared with 14.6% of revenue in the prior year quarter, an improvement of 140 basis points year on year and 120 basis points below last year's annual level. I personally have a lot of experience in driving improved SG&A performance and with the announcement of Fred Vandehar as our Lean Director, he will become a critical work partner in this with me. And I look forward to sharing more information and progress in this area in the future.

Operating income of $43.3 million increased 56% from a year ago and represented 11.2% of revenue this quarter. As I mentioned, this compares favorably with the 10% in the second quarter and is up 250 basis points from 8.7% a year ago. As John indicated, improvement in performance in Europe and improved execution in the networking market have been key drivers of our consolidated operating profit improvement. While our top performing businesses anchored by the Belden Americas division continued to operate at high performance levels in very strong markets.

Interest expense for the quarter was $3.1 million, lower sequentially as we paid down a portion of our fixed rate debt. I will discuss the balance sheet in more detail later in my further remarks.

Interest income rose to $2 million. Pretax income from continuing operations was $42.1 million. And this compares favorably with the $25.2 million a year ago, an increase of 66.9%.

Income tax expense as reported was $10.1 million or 29.2% of pretax income for the quarter. This included the one-time benefit of $4.7 million from the favorable resolution of prior period tax contingencies. Unfortunately, there was again no near-term tax benefit available in some of the jurisdictions where we incurred these restructuring charges, a situation that correspondently raises our current quarter effective tax rate.

For the year we expected the effective tax rate on our earnings as reported to be 39.3% without taking into account the benefits of the $4.7 million in the third quarter. And our adjusted results, excluding the restructuring charges and the one-time benefit, were reflecting an effective tax rate of 36% for the year to date. This will be a good rate and I would suggest you use it for modeling 2007 performance.

Weighted average shares outstanding for the calculation of diluted earnings per share for the third quarter were 50.5 million. The year-over-year reduction in shares outstanding is related to the 2005 over $100 million share repurchase program. But sequentially, the number of basic shares has risen due to stock options exercised during the quarter, shares of which we issued out of treasury stock. Our diluted weighted average shares include 6.1 million shares attributable to our convertible notes.

Diluted earnings per share on an adjusted income from continuing operations for the third quarter was $0.54. This is up 63.6% compared with $0.33 in the third quarter of 2005. That brings our year-to-date adjusted results to $1.41 compared to $0.76 in the first nine months of last year.

I would now like to turn to the segments and have a discussion about the operating units of Belden. Our largest segment, Belden Americas, had external revenue of $205.2 million, an increase of 28.7% year over year compared with the third quarter of 2005. But it was a decrease of 6.7% sequentially from the second quarter of 2006. A very robust second quarter in Belden Americas was enhanced by some pre-buying by distributors and contractors, which shifted some volume from the third quarter to the second quarter.

With our distributor point of sale data, we know that Belden Americas is on track with very strong demand and our market share and sales through key channel partners are improving in electronics and industrial markets. And that any decrement in our networking share is consistent with the portfolio actions that John has described.

The segment's operating profit, adjusted for severance charges, was $36 million or 16.3% of total revenue, strong and consistent with performance in the first and second quarters of this year. Total segment revenue includes shipments to affiliates. I would like to reminder everybody that our reporting philosophy here at Belden credits the segments with margin on both external and inter-company sales of that segment. And then we perform the elimination in a separate line of our segment information schedule.

External revenues of the Specialty Products Group was $66.2 million, an increase of 4.3% year over year with lower volumes at Mohawk being offset by our year-over-year pricing actions. Operating income for the segment was $11.7 million or 15.7% of sales, very strong performance. It is 2.5 times the operating income of $4.6 million in the third quarter of 2005 and a 6.7% of revenue rate. And it's the highest quarterly operating income percentage for the Specialty segment since the first quarter of 2005. Specialty's done a great job on general cost control in addition to price management, which has contributed significantly to this improved profit level.

To reiterate John's remarks about Europe and the Europe segment, external revenue for-- was $95.6 million in the third quarter of 2006, an increase of 18.2% from a year ago with higher pricing and more favorable mix, more than offsetting the lower unit volume. The segment's external revenue decreased 4.9% sequentially from Q2. Operating profit in Europe adjusted for severance and asset impairment charges was $7.1 million or 7.3% of total sales as John indicated earlier.

One of the many exciting challenges that I was to focus on when I joined Belden and identified in my goals for 2006 was to help address the performance issues in this segment as it has above breakeven or barely been above breakeven for the last several quarters. I'm pleased to see so much positive traction already in place. The results reflect a great deal of hard work, a lot of team work across the European manufacturing sales and administrative organizations, which I have been able to witness first hand in my initial tour of the company. Improving and sustaining our profitability in Europe is clearly one of the most significant things we can do to improve shareholder value.

And that-- in July and August management said that we are expecting improvements in Europe in the third quarter and the European team delivered. A long road of manufacturing restructuring, shared services implementation, and marketing and sales improvements has begun to pay off. I will note that the European market is dynamic, operating results will vary, but the improvements made thus far are substantial. They are structural. And we expect of lasting value.

In the Asian Pacific segment, revenue grew 45.9% year on year to $18.6 million compared with $12.7 million a year ago. This is driven by our increased investments in the segment sales and marketing resources, which employ and increasingly poll of the Belden brand. The segment comprised 4.8% of consolidated revenue for the quarter. Operating income for the segment was $1.4 million or 7.5% of sales.

For Belden consolidated operations, the geographic configuration of our revenue is as follows. Revenue in the United States and Canada was two-thirds, 67% of our total; in Europe, 23%; and the rest of world 10%. This is a slight shift towards Asia where we're experiencing such strong top line growth in the quarter.

Now I'd like to turn to some selected balance sheet and cash flow items. Cash at the end of the quarter was $191 million, which is down $5 million from June even though the company retired $44 million of the 7.74% medium term notes and the second tranche of a $15 million in the 6.92 medium term notes, consistent with both their terms and their tenure.

Net cash generated from operations was $42 million for the quarter and represented the first quarter of 2006, where our working capital requirements did not expand. Net cash from operations year to date is $58 million, which includes $50 million in additional working capital investment.

Appreciation and amortization during the quarter were $8.3 million and capital expenditures were $3.2 million. Spending for our new Dallas plant, which we announced will be around $30 million, will fall mostly in 2007.

John has indicated in earlier comments that working capital is an important indicator of the company's health and is a key performance indicator for management. I'm pleased to start the conversation and the presentation of information that will regularly inform you of our progress in this area and help you model expectations for the future. The calculations being presented here are simple, quick measures derived from our published third quarter financial statements.

First let me explain that there is some seasonality in our backward looking metrics. So initially I would like to focus our attention on year-over-year comparisons.

Overall working capital turns have improved from 3.9 turns in the third quarter of 2005 to 4.3 turns in the third quarter of 2006. Inventory turns, our most significant working capital element, improved from 4 turns in 2005 to 4.7 turns in 2006. We're making good progress in both Europe and Asia. And in the third quarter, we had an excellent improvement across the board for the company in both raw materials and work in process inventory.

Days sales outstanding on receivables have improved from 62.8 days to 54.4 days to a renewed focus on execution. Days payable outstanding however had degraded from 66.8 days in 2005 to 54.4 days in the current quarter due to the timing issues resulting from our near-term actions on raw and WIP inventory improvements.

The total working capital position of the company was $275 million at the end of the third quarter, up $27 million from last year. However, down sequentially from Q2 by $10 million.

One more idea I'd like to introduce before we move on to discuss the outlook is our capital structure. As we look at our balance sheet and again I will note one of the reasons I've joined Belden, we fully recognize the opportunity to make it more efficient and powerful. And as the company said in August, we are working on alternatives to our current financial structure that'll improve our value to all shareholders.

I'd now like to turn it back to John Stroup, our CEO, for some comments about our outlook for the remainder of 2006. John?

Thank you Gray. As we said in our release, we are essentially reiterating our outlook for the fourth quarter, expecting income from continuing operations per diluted share in the range of $0.43 to $0.48 per share on a GAAP basis. This includes anticipated charges for restructuring actions already announced approximately $0.01 per share.

The positive effects that our variable margin resulting from portfolio management are partially offset by the negative effects of lower seasonal volume, the inventory reduction that Gray just spoke of, and the temporary inefficiencies of reforming our manufacturing footprint. This challenge has been incorporated into our fourth quarter outlook.

We continue to work on our manufacturing strategy and you should expect as we make decisions in the future, we will incur additional charges from time to time. When we announced our recent actions in Europe, we said there was an impairment charge of $2 to $4 million to come later regarding equipment in the Netherlands. We do not expect that charge to occur in the fourth quarter, rather early in 2007.

I'd like to speak for a moment regarding our guidance practices. We are considering and discussing with our board of directors some possible changes in our guidance practices. We might decide for 2007 to issue earnings guidance only on an annual basis, not on a quarterly basis.

Earnings are obviously very important and we want to be forthright with you. But quarterly EPS forecast can place excessive focus on short-term rather than long-term performance in the minds of both investors and management. For this reason, there is a growing trend among well-governed companies to discontinue quarterly earnings guidance. We've gathered opinions from sell side analysts and a few of our large holders. If you have an opinion about this matter that you would like to share with us, please give Dee a call and let us know.

Gray and I do intend however to establish a few key performance indicators or KPIs that we will regularly report to you that will tell us all how we are performing with respect to our strategy and goals. We have numerous KPIs that we use internally but we'd like to focus a few to incorporate into our external reporting such as Gray has begun to do with cash and working capital today. We think this may be helpful to you in understanding the value creation going on at the company.

This concludes our remarks. We now have some time for your questions. Our operator, Stephanie, will remind you of the procedures for asking your questions.

Stephanie?

[OPERATOR INSTRUCTIONS] Our first question will come from Celeste Laurenzano from Merrill Lynch.

Good morning.

Morning Celeste.

Was wondering if you could talk a little more about the portfolio management initiative. Specifically if you could quantify how much of an impact it had in Q3? And then going forward, how should we think of the incremental impact?

Celeste I think that as we tried to, tried to describe, the focus has been predominantly in those areas of our business that have been struggling historically with reasonable levels of profitability. If you look at our year-over-year comparison in terms of operating income improvement on the revenue that we increased, given the fact that our volume is relatively unchanged, you can see that we had considerable impact from managing the portfolio more properly.

Going forward, I think that we will expect to see continued improvement in 2007 from those actions. But I don't think we're expecting that the improvement in 2007 would be as substantial as it was in 2006. Obviously we will have the opportunity of realizing in 2007 the full impact of what we've realized in 2006. So that'll obviously be some tail wind for us going into 2007.

But you can probably tell from our remarks, we're pretty pleased with what we've been able to do there in relatively short order.

Great. And from just a revenue perspective, I don't know if you can kind of break out what-- how much of an impact it had to revenues in Q3 and then how we should think about it going forward? Is it going to kind-- have you done most of it from a top line perspective or should we assume that there's still more to go?

Well I think if you look at the segment information, I think what you would expect that the growth that we saw in Belden Americas for example is probably the type of growth that you might have seen in the other North America businesses if we hadn't been executing the product portfolio management process. In Europe, we probably wouldn't have seen as extensive a growth just because the region isn't growing as quickly. But I think Belden Americas is a pretty good example of a business where the impact from product portfolio management was relatively small and probably only offset the share gains that we had in that particular business.

Okay and then from pricing, particularly for networking cable, do you feel you pretty much caught up with raw materials at this point?

Yes, I think we have done a good job catching up with raw materials. I would say that our actions now at this point are more about product positioning than they are about trying to catch up from any delays we would have had in passing on prices to deal with the commodity effects.

Great. Thank you.

Just a moment, we'll take our next question. We'll go next to Jeff Beach with Stifel Nicolaus. Mr. Beach, your line is open. Please go ahead.

Hello, can you hear me?

Yes, hi Jeff.

Okay. Was something wrong there with the line. Yes, I would like to pursue the sales and possibly the sales outlook as well. You know I follow Anixter and I know they're only one of many distributors but when I look at their results for the third quarter and outlook for the fourth quarter, they had very strong sequential sales growth in the third quarter in their enterprise business. And they had very strong sequential growth in their industrial cable business.

And I don't see that through either of your Belden Americas both and the Specialty Products both declined. And I know the portfolio management is part of this. But in the prior question you failed to quantify that. Can you give us some color as to what's happening with some of your product lines? Cause I would think that you would mirror closer to what an Anixter is doing. So can we assume that the portfolio management impact on sales is huge?

And then, I'm sorry I'd love to have some sort of thoughts on fourth quarter. The earnings that you're suggesting look like you're looking for a pretty steep drop in fourth quarter sales as well to have earnings fall off as much as you're guiding to. I'd love to have some commentary on that as well.

Okay, Jeff I think when it comes to the revenue questions that you have, I think it varies a lot by the segments. In the case of Specialty for example, there has been some fairly significant actions taken predominantly within the Mohawk business that have a negative impact on revenue. And that has offset a lot of the market demand that we've seen in other parts of the business within Specialty. That's probably the greatest example.

As you go to Europe, you're looking at growth somewhere between 18 and 20%. I think if we hadn't taken aggressive actions in the portfolio that might have been as high as 25. In Asia we had very good growth and we're very pleased with that. And in Belden Americas our growth was in the sort of mid to upper 20's. That was, in my view, a combination of some product portfolio actions taken in the networking or enterprise business, some good strength and demand year over year in some of the other businesses.

But sequentially in the Belden Americas business as Gray alluded to we do think that we saw some demand in Q2 that was really for-- and market demand in the third quarter. As we had announced a number of price increases in the second quarter, we saw both channel partners as well as in customer take advantage of those announced price increases, given the fact that many of the products that they bought from us are relatively low risk. That is to say they're fairly confident that they're going to sell them. And in the case of contractors, they may have actually locked in on prices that they could take advantage of on programs that they had been committed to.

One of the key things that we look at Jeff is the sell-through data. The raw data going through the channel partners as well as inventory in the channel partners. And as we look at that data Jeff, we're comfortable that we are tracking with the market in the product lines that we want to.

With regard to the fourth quarter, we're anticipating revenue in the fourth quarter to be roughly similar to the third quarter, not a substantial drop-off. I think the challenge that we see in the fourth quarter is that with a little bit of revenue drop-off and with our focus on inventory reduction and some of the temporary inefficiencies that can be, that can happen with a lot of the manufacturing groups that we're doing, we're trying to be honest with ourselves. In the short-term, we think that we're going to have some challenges with the manufacturing cost structure. We think we understand it. We're working on it. And it certainly would be our expectation to do what we're telling you we're going to or maybe better. But we thought it was prudent to take a conservative point of view on that outcome.

John can you just expand on that a little bit more of the manufacturing efficiencies or whatever you just referred to?

Sure. As you look at our manufacturing margin, what you're seeing is variable margin expansion. With the actions that we talked about in portfolio management, we've gotten very nice variable margin expansion. That is partially offset by some manufacturing cost issues that are really the result of a focus on inventory reduction, which means our production's less than our demand. The fact that we are managing a number of factory moves, many of which as you ramp up, you ramp down at the same time. So you're not yet achieving the long-term cost synergies that you would expect to get from the regional manufacturing strategy that we've communicated.

So we believe that in the fourth quarter, we're going to be dealing with some of those things. We're bringing down factories. We're bringing up factories to do that correctly so that you don't disrupt flow to your customer base. You do have times where you may in fact have redundant capacity in place to make certain it's executed properly.

So that in combination with our focus on inventory reduction, we think is going to put some pressure on the manufacturing line and could partially offset some of the good things we'd done in variable margin. Again, these are all short term, things that we think we think can manage through very well. But we have incorporated that into our guidance in the fourth quarter.

One last question and then I'll back out. Can you look ahead over the next several quarters and talk about your pricing versus your cost structure. Do you see ahead here starting to get any kind of real pricing over cost in the marketplace ahead? Or are you going to try to do all your margin improvement through cost reductions?

I would say that more of our margin improvement is expected to come through cost reduction than it is through pricing actions in excess of current cost. Most of the maneuvers that we've been doing here Jeff have been very deliberate as it relates to the product lines we want to be in, the markets we want to serve, and the value that we think we ought to be getting from our product lines. And those were many in 2006 because we had a lot of examples, as you know, of product lines that just were not positioned in the marketplace correctly.

I think going forward Jeff we're going to have a very, very significant focus on cost. And we have a number of product lines that we think are major contributors to organic growth that we're already pricing at a level based on a cost we expect to achieve as opposed to a cost that we have already achieved.

So I want to make certain that it's clear that as we try to balance through these actions on portfolio management that we're keeping a keen eye on the organic growth side of the equation as well and making certain that we have a real good focus in getting our cost structure, not just aligned but continuously improving it.

All right, thanks.

Thank you Jeff.

We'll hear next from Kevin Sarsany, Next Generation.

Hi.

Hi Kevin. It's nice to hear from you.

Nice to talk to you. I think after today you probably are going to go to annual guidance if I could take this one step further. Now I'm a little confused here. Now most of the restructuring charges were in Europe, correct?

Correct.

Okay, so that-- does that mean you're done in Belden Americas or North America?

No.

Okay. Now in the fourth quarter, you're talking about manufacturing inefficiencies. But haven't you been doing similar actions throughout this year while operating margins continue to expand?

I think there's two things Kevin that might be different. One is the restructuring that we're, that it's in play, especially North America is beginning to accelerate. And it's coming in the areas that are probably most tenuous. When we announce something obviously it's well in advance of when we do the execution. So that's one element that we have to be aware of.

The second issue is that this company has never really had much of a focus on inventory reduction. And we have to acknowledge the fact that as we bring our inventory down, we're going to be producing at a lower rate than demand. And therefore, we're not going to be absorbing our manufacturing fixed cost at the same rate that we have previously.

So we need to make certain that we flex those costs properly, obviously and that's our focus, to make certain that we do that correctly. But I think we feel as though temporarily as we work through a lot of these restructuring actions and inventory reduction that that's going to be a challenge for us. And we tried to be forthright and honest with all of you that that is a challenge and one that we're going to be working on.

Now the inventory reduction, how much are you talking about here? And how do you look at it? Do you look at it in inventory days or actual absolute numbers?

Well we use a quick turn calculation, which is similar to days. And what that does is we look at the amount of inventory that we have compared to a cost of goods sold number that would be approximated over the last three months annualized. So it is revenue adjusted. Which I think is the right way to look at it cause obviously you need to flex your manufacturing costs with volume regardless. And as you bring inventory down, you have to flex it further.

So in terms of quantification, I think we shared with you guys earlier that internally we have an objective to try to improve a turn a year over the next three years. And right now a turn is a lot. That's a lot of inventory. $60 million of inventory reduction would be one turn. That means Kevin we'd be producing $60 million less than what our customers purchase. And that has an effect on manufacturing absorption.

Obviously that's a very meaningful impact on free cash flow in a positive way. And it's the right thing to be doing for our business for obvious reasons. But it does create a near-term challenge. One that I don't think is going to be difficult for us to overcome. I believe we're doing the right things. I think we'll focus on it. We have the right metrics in place. We understand it. And it's just something we got to keep working.

And where is most of the inventory that you think you want to reduce?

Well we've had inventory reduction-- we've had inventory reduction in a number of our businesses and in a number of categories. The best opportunity for the corporation would be in finished good inventory. That's where most of our inventory is and that's where most of the waste exists. And as I talked previously about the implementation of lean enterprise, we want to cease dependence on finished good inventory. We want our cycle times to be short enough to where we can react immediately to customer demand within reasonable lead times.

So finished good inventory is a major area of focus. WIP will continue to go down with the implementation of lean as well. Raw is probably the piece that would come down the least of the three categories.

From a business segment point of view, we've already made some very good progress in both Europe and Asia. We made less progress in North America. And that's an area that we need to focus on as well.

So I would say in summary finished good inventory and probably a little more focus in North America, given the amount of inventory and the fact that we haven't made the progress we need to.

And going back to what you just said, we've seen the biggest improvement in margins or sequentially was in Europe and specialty electronics. But I guess going, comparing to Europe, if you've already done a lot of the inventory reduction.

There's a lot more to do Kevin.

Okay. Well I'm just trying to-- I mean my, the gist of this whole thing is I don't really understand since you've been here margins have gone up first quarter 20 basis points, next quarter 90 basis points, this quarter, this last one was 120 basis points. You're doing all the right things and you're making the right progress.

And I'm a little confused why the incremental margins, where you're putting them for the fourth quarter really imply a really-- I mean I know long term this is great. But it's a big step back. And you're implying margins almost 100 basis points below where they were in the third quarter on flat, sequential revenue. And I thought a lot of this stuff was already going on.

Are you accelerating this? I'm just-- I'm just trying to get my arms around the numbers. The impacts, I mean I understand the trend of what you're trying to do and why. But the impact just seems to be a lot bigger than I would have expected. And you've come a long way and it just kind of seems like you're redoubling your efforts to do this stuff.

Well Kevin, first of all I would say that we did have this-- these thoughts and we anticipated this in our full year outlook previously. And--

Ahead of fourth quarter?

We knew that the fourth quarter was going to be more of a challenge than the third quarter as it related to the timing of the execution of the footprint as well as the fact that if we made the progress in inventory we wanted to, that that was going to be a challenge. And I would say those are not new concepts to us. Maybe we didn't emphasize them as much as we should have. But they're not new concepts to us.

I would say that the other thing Kevin is that the improvement we've seen in the gross margin line, I don't see any change to that in the long run. We're going to continue doing the things that we're doing that I think are making a positive difference. And I think that we're taking an appropriately conservative view of the fourth quarter as it relates to the-- to this matter. And we're going to continue to work as hard as we can. And we're not going to stop. And if there's a way for us to do better in the fourth quarter than what we think we can, then we'll do it.

No, I'm sure you will. I just, it's just the magnitude that kind of has me thinking. I mean the pruning you've done at Mohawk has increased the margin in Specialty pretty dramatically. You're doing that. You're doing better brand management, SKUs with products, pruning there, making more profitability, foregoing some volumes. But volumes are still very good and they look like they're going to be year over year pretty good in the fourth quarter. And I think in the fourth quarter you're also going to get a much more favorable price versus raw material cost relationship. So I'm just kind of wondering how big a impact all this is and I think you tried to answer it. But I-- I'm still kind of scratching my head.

Yes.

So--

Well--

So I understand. You know I understand what you're saying, what you're doing. I think you're doing the right long-term things for the business. I just am a little confused by the magnitude in the fourth quarter.

We'll follow up. We'll follow up.

Okay, okay. Thank you.

Thanks Kevin.

We'll go next to Joni Jensen, McMahon Securities.

Hi. You spoke about the balance sheet and some capital structure alternatives you're looking at. Could you provide a little bit more detail on some of the options you're looking at? And have you given thought to where you want your target debt to cap ratio to be? I know there's been talk previously that you were under levered. And lastly, maybe talk about what your current acquisition strategy is?

Yes, hi Joni. This is Gray Benoist. Clearly one of the things that was most attractive or one of them, ingredients of attractability for Belden is the, what I'll call the strength of the balance sheet. And now it's to turn that strength into power, which allows us to have the capital structure that makes an acquisition process feasible.

So we are looking at what I'll call peer group kinds of ratios associated with the capital structure of Belden. So debt to debt plus equity in the 25 to 40% range here associated with the recapitalization concepts that are being considered. I will also note that the freedom that the balance sheet allows us with respect to that is superior. All right, that we're getting that kind of feedback associated with the institutions that have reviewed the process with us. And therefore the caliber of the debt instruments that are available to us are quite attractive.

So when you talk about looking at some of these or this recapitalization, are you thinking of just doing it to get to the optimal capital structure or in conjunction with acquisitions or just more of a standalone type situation?

Let me comment if-- this is John. Let me comment quickly if I could on acquisitions. I've tried to be very consistent about this that we are looking at various acquisitions that could in fact enhance our portfolio. And any acquisition that we might do would be absolutely consistent with what we've laid out in our strategic plan. It would be something that would allow us to achieve our strategic goals quicker. And it will be absolutely in bounds as it relates to the things that we've articulated.

And clearly as we think about those things, I've asked Gray and team to make certain that our capitalization strategy will properly accommodate some of the things that are possible and likely to happen.

And to follow on to that point that John just made Joni, we do review and expect that the capital structure will be quasi event driven. All right that there will be a series of issues that need to be addressed that drive the capital restructuring rather than vice versa.

Okay. Thank you very much.

Sure.

Ben [Gamble], [inaudible]

Hi guys. Good morning.

Morning.

Hi Ben.

Could you just expand on that just a little bit further in terms of quantifying if you would include the working capital gains in that calculation of debt to equity?

Absolutely. Right, when we look at the debt to debt plus equity kinds of structural changes that are possible to us, I'd like to look forward Ben at least 12 if not 24 months in terms of a couple of aspects.

First, working capital change, absolutely as we're driving that performance element. Two, the ability of the underlying current business to generate cash. Right, which is more than just notable. And then three, what's the target acquisition's ability to also generate cash?

So I think there's a lot of subtleties around the edges associated with looking at the capital structure that is not painted in a static picture, but is painted in a flow of scenarios that we should be and will be reviewing. So working capital changes, cash from operations and cash from any potential target.

What about on a debt to EDITDA level? What kind of numbers you would look at?

Well right now I think the, sort of the peer group rate somewhere between 1.5 and I guess as much as 3 is out there right now, maybe a little north of 3 on the more aggressive side. And again I think we want to be comfortably within the peer group range. Right, of course circumstances are going to dictate. And if there are extraordinary circumstances that this company must take advantage of, that has to be brought into consideration.

Okay. Is it reasonable to think that you could get to the low end of the range on the core business and then stretch that if you need to?

The answer is if the circumstances warrant it, yes.

Okay, when I put all this together, kind of the cost cutting, the manufacturing, balance sheet changes, is there any reason to believe that the company wouldn't have earnings power of $5.00 a share in a few years?

Our guidance doesn't go out that far Ben.

But I'm just thinking long term.

Well I mean I think we shared with you financial goals that we have over the next three years. And I would take you back to that in terms of what our expectations over the next three years. And as I always say, we'll aim higher than that.

Great. Thank you guys.

Thanks Ben.

[OPERATOR INSTRUCTIONS] We'll take a follow-up from Jeff Beach, Stifel Nicolaus.

Yes, thanks. John, the discussion about the planned inventory reduction I think was real helpful in allowing us to understand what's happening at Belden in the near term. Can you quantify, you talked about one inventory turn a year is $60 million in working capital or inventories. Can you talk, give us a rough range of what kind of inventory reduction you're aiming for in the fourth quarter?

Well Jeff very simply stated, we've asked each one of our operating units to target a quarter turn per quarter. So we've got very much of a linear sort of improvement in terms of how we would improve that. Now we have seasonality in different quarters and so forth. But our expectations is that this is not going to be a hockey stick improvement. That inventory improvement happens through hard work every single day. And so our expectations is that from quarter to quarter we would expect to see a quarter turn of improvement or .25 turn of improvement in our businesses.

So that's about $15 million a quarter that will continue on ahead for the next couple of years?

That's right. That's $15 million a quarter assuming the revenue was the same. And of course, every time we get a turn better than that number comes down a little bit in terms of what the actual dollar--

Right.

Amount is.

So you'll be facing some unabsorbed I guess plant overhead kind of continually ahead over the next year that will represent some drag on your results ahead so it means you got to work harder on the cost side?

That's right. What it means is we have to have an orientation of establishing a manufacturing cost structure that's appropriate for our production goals, not our demand target. And that's what we're focused on, is making certain we staff appropriate to production, not appropriate to demand. And as we bring our inventory down and free up cash, we also manage the operating income side as well.

All right. Thanks a lot.

Thank you Jeff.

Ms. Johnson, there are no further questions at this time. Please continue.

Thanks Stephanie. Thanks everybody again for joining us on the Belden earnings conference call for the third quarter of 2006. If you missed our analysts' day presentation in August, the slides and the audio are still on the website and I would encourage you to take a look. At that time, we laid out our strategic plan and our financial goal and spent time talking about each of our business units. It's a good presentation.

We sincerely appreciate your interest. Please give us a call anytime if you have follow-up questions and this concludes our call. Thank you.

Thank you ladies and gentlemen. This concludes our conference call for today. You may now disconnect from the call and thank you for participating.