Brady Corp (BRC) 2016 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Q1 2016 Brady Corporation earnings conference call. My name is Whitley and I'll be your operator for today. (Operator Instructions) As a reminder this call is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Miss Ann Thornton, Director of Investor Relations. Please proceed.

Thank you, Whitley. Good morning and welcome to the Brady Corporation fiscal 2016 first-quarter earnings conference call. The slides for this morning's call are located on our website at www.Brady Corp.com. We will begin our prepared remarks on slide 3.

Please note that during this call we may make comments about forward-looking information. Words such as expect, will, may, believe, forecast and anticipate are just a few examples of words identifying a forward-looking statement. It's important to note that forward-looking information is subject to various risk factors and uncertainties which could significantly impact expected results. Risk factors were noted in our news release this morning and in Brady's fiscal 2015 Form 10-K which was filed with the SEC in September of this year.

Also please note that this teleconference is copyrighted by Brady Corporation and may not be rebroadcast without the consent of Brady. We will be recording this call and broadcasting it on the Internet. As such your participation in the Q&A session will constitute your consent to being recorded.

Thank you, I'll now turn the call over to Brady's President and Chief Executive Officer Michael Nauman.

Thank you, Ann. Good morning and thank you all for joining us today. This morning we released our first quarter fiscal 2016 financial results. In our first quarter, we experienced fundamental improvements in our operating costs. Our gross margins improved as a result of driving efficiencies throughout our facilities. We are also seeing steady improvements in our SG&A expenses.

With our manufacturing teams and recently consolidated sites focused heavily on improving customer service and driving efficiencies, we've seen improvements in numerous areas including freight costs, labor costs, supplies, material usage and charges for excess inventories. This resulted in better-than-expected EPS.

We continue to be challenged in the current economy with organic sales which declined 2.2% with low-single-digit organic sales declines in both the Identification Solutions and Workplace Safety segments. The organic sales trends we experienced in the fourth quarter of last year continued into our first quarter. Specifically in the IDS segment, we experienced declines in the Americas and Asia regions while our European business grew slightly.

Similarly, in our WPS business sales declined in both North America and Australia while we had continued growth in Europe.

In addition to our financial improvement, we're making noticeable gains in our customer service metrics with leadtime shrinking, on-time deliveries improving and backlogs declining. Strong customer service and delivering the highest quality product which our customers have come to expect and deserve is our number one priority.

As stated previously, it is very important that we are seeing continued improvements in these metrics. I'm proud of the strong efforts and the results being generated by the Brady team but we have more work to do throughout the year and customer service most certainly continues to be our primary focus. We expect to see modest yet steady margin improvement throughout the balance of the year as our workforce gains experience and we settle down into a more stable environment.

As I mentioned in previous calls, we've been working to acquire and retain the best possible talent. Our new workforce is becoming more efficient as they become more familiar with our products and processes. We are also supplementing our local team through strong operational leadership support to train the new employees and drive process improvements across our newest sites.

During fiscal 2015, we finalized our restructuring process, completing the facility movements that had started in prior years. These facility moves and restructurings are now behind us and we're driving efficiency gains across the entire company by empowering local teams to own and be accountable for their financial results in creating stability that will enable our teams around the globe to serve our customers better and grow organic sales and profitability.

Although there are reasons to be concerned about the health of the macro economy, I'm confident that we have a talented team that can and will drive improved operational results over the next several years.

Now let me turn the call over to Aaron to discuss our first-quarter financial results. I'll then be back to provide some specific commentary on our IDS and WPS businesses and provide a few closing comments. Aaron?

Thank you, Michael, and good morning, everyone. Please turn to slide 3 for an overview of our first-quarter financial results. Total Company revenues were heavily impacted by the much stronger US dollar when compared to last year's first quarter. Total revenues were down 8.8% to $283.1 million when compared to the first quarter of last year. This was driven by a combination of a 2.2% decline in organic sales and a 6.6% decline due to foreign currency translation.

Diluted earnings per share were $0.37 this quarter compared to $0.30 in the first quarter of last year. In fiscal 2015, we completed our restructuring plans and also completed the sale of the die-cut business. As such our fiscal 2016 financial results are not impacted by discontinued operations, restructuring charges or any other items to be called out for comparability purposes. When comparing against the prior-year earnings and EPS figures, the best measure is prior year non-GAAP earnings from continuing operations as it excludes restructuring charges and discontinued operations. Non-GAAP EPS from continuing operations was $0.36 in last year's first quarter.

Having these restructuring activities and discontinued operations behind us not only provides much cleaner financial results, but it significantly reduces distractions and enables our team to operate in a more stable environment which helps us focus on strong customer service, organic sales growth and operational efficiencies.

Slide 4 is a summary of our quarterly sales trends. In the first quarter, revenues finished at $283 million. As I just mentioned, total Company organic sales were down 2.2% and we had significant foreign currency headwinds which further reduced sales when compared to the prior year.

As we look at our order patterns throughout the quarter, organic sales were up slightly through the end of September while we experienced sluggish demand in October resulting in our organic sales decline of 2.2% this quarter.

On a platform basis, organic sales declined 2.2% in the ID Solutions segment and were down 1.7% in Workplace Safety this quarter.

Turning to slide 5, you can see that our first-quarter gross profit margin finished at 49.2%. This represents an 80 basis point improvement over the first quarter of last year but more importantly represents a significant sequential improvement over the fourth quarter of the last fiscal year.

Sequentially, we are seeing most of our gross profit margin improvement in the facilities that we've recently consolidated. We are encouraged by our improvements in gross margin as Michael mentioned in his opening remarks but at the same time we are keenly aware that we have more progress to make in order to achieve our operational and efficiency goals.

On the left-hand side of slide 6 is the trending of SG&A expense. SG&A expense was down to $100.7 million this quarter from $109.3 million in Q1 of last year. Approximately 3/4 of this decrease was caused by the impact of the stronger US dollar and the remaining quarter of this decrease was caused by reduced selling expenses in our WPS segment as the teams have been working to continually drive efficiencies in the non-customer facing areas of our business and driving efficiencies in catalog advertising.

On the right-hand side of this page is a chart showing just our G&A expenses. G&A expenses finished at $26.6 million in the first quarter which is down slightly from $27.8 million in last year's first quarter. The trends in G&A that we saw in the fourth quarter of last year are continuing. Specifically, we are achieving reductions in all of our G&A categories, except for IT, which is running above the prior year due to ongoing costs related to our digital investments.

As we've discussed in the past we are focused on driving efficiencies throughout G&A expense. But we expect that these savings will come in a measured manner over the next several years.

Moving on to slide 7, you can see that our diluted EPS was $0.37 this quarter which compares to our non-GAAP EPS from continuing operations of $0.36 generated in the first quarter of last year. The main drivers of our improved EPS were our improved gross profit margins and reduced G&A expenses.

Slide 8 summarizes our cash generation. This was another strong quarter of cash generation. We generated $30.4 million of cash from operating activities this quarter compared to $18.6 million in last year's first quarter. The chart in the upper left-hand corner of this slide provides more detail on cash generation. The bars represent cash flow from operating activities and illustrates that we've realized improved cash flow over the last three quarters as we've moved beyond the period of elevated cash outflows from our restructuring programs and facility consolidation activities and have moved into a period of increased ability and focus, which is really helping improve our cash generation.

Looking at free cash flow, we finished with Q1 free cash flow of $28.1 million compared to $7.1 million in last year's first quarter as capital expenditures also declined due to the completion of the facility consolidation activities. We returned $16.2 million to our shareholders through the repurchase of approximately 800,000 shares at an average repurchase price of $20 per share. We also returned $10.2 million to our shareholders in the form of dividends this quarter.

Even with returning a total of $26.4 million to our shareholders in the form of buybacks and dividends, our debt balance continues to decline as we repaid $2.7 million in debt this quarter.

Our EBITDA trending and the net debt trending are presented on slide 9. Our net debt to EBITDA was approximately 1.1 to 1 at the end of the quarter. Our total net debt position has been trending down since December 2012 and at October 31st, 2015, it was $140 million compared to net debt of $174 million at this time last year.

Our balance sheet is strong which gives us the flexibility to fund future growth opportunities and return funds to our shareholders. We maintain a prioritized yet nimble approach to capital allocation. First, we use our cash to fund organic growth opportunities which include funding investments in new product development, sales personnel, digital enhancements, et cetera.

Second, we focus on returning customers shareholders in the form of dividends. We are proud of our dividend track record which includes 30 consecutive years of annual increases.

Third, we used our cash to improve shareholder returns through share repurchases. Share repurchases are executed in an opportunistic manner whereby we only repurchase shares when we see an opportunity to drive meaningful incremental shareholder value.

Fourth and finally, we use our cash for acquisitions. As we've stated in the past, we do not expect acquisitions to be a significant use of cash in the near term. We believe that by executing a prioritized and disciplined capital allocation approach, we can generate meaningful shareholder value over the long term.

Slide 10 is our EPS guidance for fiscal 2016. Our earnings per diluted Class A share guidance for the year ending July 31, 2016 remains unchanged at $1.10 to $1.30 per share. However, we anticipate achieving this EPS guidance range on less revenues than we originally anticipated. Included in our guidance is slightly down organic sales for the balance of fiscal 2016, challenges in certain industrial markets and geographies, including the US where recent feedback from our channel partners and customers gives us reason to believe that there will be a continued near-term deceleration in order patterns offsetting this weaker sales outlook, our increased efficiency gains in our manufacturing facilities as well as in selling, general and administrative expenses. At this point, we do not anticipate any restructuring charges for the remainder of fiscal 2016.

Other key assumptions in our guidance are effectively consistent with what we introduced last quarter which are full-year income tax rate in the upper 20% range, capital expenditures of approximately $25 million, and depreciation and amortization of up to approximately $40 million.

I'll now turn the call back over to Michael to provide color on our platforms and some closing comments before turning the call over to Q&A. Michael?

Thank you, Aaron. Let's turn to slide 11 for a summary of the first-quarter Identification Solutions financial results.

Organic sales were down 2.4% while foreign currency translation decreased sales by 5%. In total, IDS sales were down 7.4% to $196.3 million in the first quarter.

When compared to the prior year, our European IDS business had slight organic sales growth in the first quarter. We have a strong team in Europe, and they've been doing an excellent job working through the less-than-robust economic environment over the last year or so.

Our organic sales challenges in IDS are due to related sales in Americas and Asia. The Americans results continue to be impacted by the macro economy in Brazil as well as what appears to be a slowing order pattern in North America. A number of our end customers and our channel partners have seen or are projecting a reduction in revenues which will most certainly have a further impact on Brady.

Within the Asia region, we are experiencing broad-based sluggish demand both within China and the rest of the region.

As we talked about in the past, an area of focus for us is to enhance the efficiency and effectiveness of our R&D functions to bring the highest quality product to market in the most efficient manner. Our new IDS President, Russell Shaller, is presenting a significant amount of time working with our R&D teams to drive improvements in this very important area to ensure long-term success.

The core of our R&D organization is strong as evidenced by another quarter of product launches. During the quarter, we specifically launched the new BPP35 and BPP37 multicolored sign and label printers which are both selling better than our initial launch projections. These desktop printers combined touch screen, multicolor printing and shapecutting capabilities with incredibly fast and easy printing to give our customers the ability to make signs and labels in colors, shapes and sizes that they need to make a real impact.

This type of printing solution combined with Brady's durable high-quality materials and the Brady workstation app truly bring a full solution to our customers to meet their identification needs.

Segment profit finished at $40 million in the quarter compared to $43.5 million in last year's first quarter. As a percentage of sales, segment profit was 20.4% this quarter compared to 25% in last year's first quarter. Although segment profit is down slightly as a percentage of sales, this is a result of somewhat heightened operational expenses from the facilities we recently moved into.

We expect to finish fiscal 2016 with organic sales slightly down in the IDS business. As I mentioned, I believe this will be the result of less-than-robust economies in North America and Asia. Even with our less optimistic sales outlook, we expect full-year segment profit to be in the high teens to approximately 20% of sales as we are focused on efficiency gains throughout our manufacturing processes and sales organization. At the same time, we have been adding direct sales personnel and engineers.

The Workplace Safety review is articulated on slide 12. Organic sales declined 1.7% this quarter and the foreign currency reduced sales by another 9.9%. Approximately half of the WPS business is in Western Europe and another 15% in Australia. As a result, the strengthening of the US dollar versus the euro and the Aussie dollar had a much larger impact on our Workplace Safety business.

Coming out of the fourth quarter, we did not expect this business to return to organic sales growth in the first half of fiscal 2016, primarily due to changes in our North American- and Australian-based businesses where the increase in digital sales has not been enough to offset the decline in our traditional catalog businesses.

In our European-based businesses, organic sales continue to grow in the first quarter with growth seen through the region as digital sales increased by double digits, offsetting a slight decline in catalog sales. Our Australian business is improving as our rate of decline has slowed significantly. The Australian team is focused on driving organic growth opportunities while continuing to manage our cost structure to match the reality of reduced revenue levels.

Throughout fiscal 2016, each and every member of the WPS team is driving three primary goals. First, effectively managing the catalog to digital shift is underway to effective and efficient catalog prospecting. Second, we are creating an industry-leading digital experience by building websites with a mobile first mentality. We converted our Seton US business to a greatly improved mobile site during Q1 and we have 13 sites remaining to convert by the end of fiscal 2016.

Although mobile sales are still a small part of our business, sales taken on mobile devices are increasing every month as a result of these new sites. We believe that having a strong mobile presence is necessary to ensure that we lead our industry in this area.

Third, we are working toward gaining product leadership in the safety identification segment through innovation and a focus on unique and customized products. Our continued focus and investments in these areas will create long-term value through an improved customer experience in our digital and mobile capabilities and a strong product line with innovative products in each product category.

Segment profit in the workplace safety platform was $16.7 million this quarter compared to $15.5 million in last year's first quarter. As a percentage of sales, segment profit was 19.2% this quarter compared to 15.8% in last year's first quarter. Our segment profit margin is encouraging as this marks the second quarter in a row of improvement. However, this business has historically returned higher profit margins in Q4 and Q1 compared to Q2, due to seasonality.

Although we expect a slight decline in organic sales in fiscal 2016, we continue to expect WPS segment profit to be in the mid to upper teens as a percentage of sales for the full-year.

Before turning over the call to Q&A, I'd like to provide a few concluding comments. I'm confident that we are taking the right actions to drive continued profitable improvements and future organic sales growth despite the current challenges provided by the macro economy. We've changed compensation plans to further motivate and reward our salesforce to deliver revenue growth over their individual targets and we are pushing increased local ownership and accountability.

As we stated in Q4, we expected organic sales to be a challenge this quarter. Our improved gross profit margins and operational efficiency improvements were slightly better than our expectations coming into the quarter. We are increasingly concerned about our ability to deliver organic sales growth as we progress through the rest of the year, due to potentially challenging economic conditions in several geographies including China, Canada and the US industrial markets.

We remain committed to delivering our EPS guidance for fiscal 2016 as we drive operational efficiencies and cost containment activities which will continue to help us improve customer service and achieve strong financial results. While short-term actions are certainly important, we are always focused on improving the effectiveness and efficiency of our organization.

The development of innovative new products and strong customer service, Brady will remain an industry leader.

I'm more energized than ever and I know that Brady's powerful brand, high-quality products and commitment to the best possible customer experience will allow us to deliver what we promised our customers, employees and shareholders.

I would like to now start the Q&A. Operator, would you please provide instructions to our listeners?

(Operator Instructions) Allison Poliniak, Wells Fargo.

So gross margin, a nice uptick sequentially there. Could you talk about the level of sustainability there this year just given some of the macro headwinds, maybe even pricing pressure just offset by some of those, I guess, no cost related to the consolidations anymore. Can you maybe walk through that a little bit with us?

Well, as we mentioned in our previous conversations, we have not been having the pricing pressure that I initially expected we would have. And in fact our pricing itself has remained strong. Really the areas were internally created our pressure is downward. And so we believe fundamentally, we have the ability to control and improve that.

Great. And then, just going to the segment profit levels so just your outlook there. You know workplace safety, it sounds like the seasonality is going to impact, you know, obviously have an effect on that this year. But IDS, with the margin there. You know, you talked about some cost outs and restructuring.

What's going on there that we're not getting any improvement from today's level? Is it the volume headwind there?

Well, we do have some volume headwinds as we did project this going into this quarter. However, we do see stronger than expected decline in our overall channel partners and customers, not only in recent ordering patterns since just a little before the start of October but also in their projections for the future and in fact their public projections. We see a downward decline in many of our channel partners and that is creating a headwind.

Sure, that's fair. Thank you.

George Staphos, Bank of America Merrill Lynch.

It's Alex Wong, sitting in for George. Congratulations on the quarter end progress. First question on the guidance with organic growth moving sort of lower, you talked about some costs being able to offset that.

Can you just provide some specific examples from the cost side? You mentioned some of the operational metrics that have improving -- I don't know if you could go into that -- or specific cost levers that you have line of sight that really gives you confidence in the guidance.

Absolutely. I think we're first and fundamentally pleased that our efforts to become more efficient and effective have already shown results slightly better than our expectations. We will continue to be able to do that, particularly in the area of gross margin improvement but also fundamentally in G&A. I think I've mentioned to you in the past that I felt our G&A was less than optimized.

We're looking very hard at making sure we continue to put people into the physical businesses so they can be accountable to the results; and that's having a strong effect.

In addition, at the factory level, our operators are becoming much more efficient, our organizational structure around them is becoming much more confident. We had some major and significant increases in volumes as we did the consolidations -- in SBC, as an example -- that created a challenge that we're overcoming. And in Tijuana, we created such a large facilities compared to the ones that had been there in that area before that it really created a new level of expectations for our overall operating team and they're becoming much more confident and comfortable in that.

And finally, we are able to take advantage of the leveraging of those volumes in addition to getting used to them, which will create a much stronger area of opportunity. Specifically in IDS, we've been able to -- under the new leadership of Russell Shaller -- focus on making sure that our process flow from voice of the customer to our sales organization to our engineering organization is clean and tight and it had not been before. We actually had a lot of redundant efforts that, at best, created cost and, at worst, created dissimilar views on our approach. And now we've really done a much, much better job of focusing in that area.

So our costs are going down yet our actual engineers that are working on projects are going up. So it's a double win for us.

Appreciate the color, it's helpful. Just second question, you referenced the reduced catalog advertising as part of the margin improvement in WPS. We saw the Company reduce catalog spending a few years ago and perhaps created

some difficulties. Are there any parallels there? If you could provide some color into that and then if you could also talk a little bit about digital versus catalog growth for the quarter?

Absolutely. So let's start with the catalog one because I think this is critically important. A couple of years ago prior to my arrival, a decision was made to instantly switch from catalogs to digital and that was actually implemented in North America.

The problem with that was our customer base wasn't going to instantly switch and, in fact, will remain strong in catalogs for years to come based on demographic issues.

We also weren't prepared even if the customers were prepared for that digital switch. You can't just announce that you're going to put all your money into digital and hope the customers will come to sites that are not geared around quick and expeditious and proper purchasing requirements.

If we fast-forward to two years -- so what we did a year plus ago was restore all of the catalog efforts. We just did it holistically because to be able to determine the most efficient effective way to distribute those catalogs at that point would have been highly risky.

In the meantime, if you move forward another year, we've been carefully beta testing and analyzing how we distribute our catalogs so that we can reduce from what had been an elevated level of catalogs because we went back just wholesale to make sure we closed the gap totally to an efficient and effective use of our catalogs.

So we have absolutely not done this in a manner to say we're switching to digital. Instead we've done this [elemental] to say if you treat the catalog business as a catalog business as a standalone effort you need to make sure that you are sending the catalogs to the people that will actually use them and use them effectively. And that's what we've been doing over this last period. And it's actually paid off tremendously for us. Hopefully, that helps.

Now as far as the second half of your question, the digital growth although we don't provide specific numbers, we did talk to you about double-digit increases. We are seeing tremendous improvements at that area.

I'm very actually proud of our sites. One of our first sites to go over and I like to let people know about it is www.Emedco.com. If you take a look at that site, short of filling in your personal data and your credit card number, you can literally find and procure and buy a product in less than 10 seconds. That is 180 degrees of what you were able to do just a year ago.

And we are not only doing that, we're doing that in a variety of other sites -- www.seton.com, we introduced this quarter. Those are major revenue producers for us. As we continue to develop those sites, we're going to continue to see significant growth. We are not making a particular -- or a projection at this point but as we've said, we see double-digit growth on those sites.

Got it and just last one for us and I'll turn it over.

Aaron, just on the cash flows, it was nice to see the improvement there especially on the inventory line. It says kind of the inefficiencies dwindled down. You know, if we look forward, is this a stabilized kind of rate that we should expect or do you continue to foresee additional improvements on the cash flow side? And maybe which areas, if so.

Yes, so from a cash flow perspective, I mean, obviously, we've given our guidance respect to CapEx so we expect our CapEx to be down from where it was last year. As we look at cash flow from operating activities, I wouldn't anticipate I'll say major improvements in working capital. We continue to drive down specifically inventories but that rate of decline is, I'll say, relatively measured.

So as we look at the $30 million or so of cash flow from operating activities this quarter, it did include a bit of tailwind, if you will, from working capital. And frankly, as we look at it, we are always working to drive down working capital. However, we certainly don't include it in all of our cash flow projections and whatnot. So I'd just be a little cautious as you look at working capital.

Thanks.

Charley Brady, SunTrust Robinson Humphrey.

Let's go back to the on the catalog sales decline in WPS. I just want to make sure I understand. Can you quantify what impact that had on margin in the quarter and are we going to see further reductions or has the catalog spending been taken to kind of a new level that ought to be kind of flatlined. Obviously, it's going to move up and down with sales in the seasonality but essentially the bulk of the reduction is done or is there more to come?

So I will -- I think there's two halves to that question. One is related to the spend on catalogs. The other is related to the actual revenue decline, Charley. I'll start with the catalog reduction. We are going to continue to model that situation and beta test. We actually have developed very specific beta testing methodologies that we used to determine whether or not we should increase or decrease catalogs in certain segments into certain user bases.

We fundamentally believe over the next 10 to 15 years you will continue to see a decline in catalog use; particularly we said in the past you'll see some incremental steps as generational changes take place. But we believe it's the fundamentally strong marketplace for the foreseeable future that we certainly don't want to depart in any way.

So yes, you will see over time continued catalog optimization. But I don't know that you're going to see giant step functions. You'll see a slow justification or rationalization of our catalog spend as we go along.

As far as the seasonality, that is -- of revenue -- that is a trend that we've seen forever. It absolutely takes place as people are defocused possibly by the holidays and on to other things. And usually then you see an upward trend after you come out of that time period because they have to get back and doing the things that they do very effectively. So we don't expect the overall trend change at all as far as seasonality.

And I just wondered, can you parse out on WPS on the margin performance in the quarter, can you parse out the improvement you got from the lower catalog sales versus the operational efficiencies that you cited in the Q?

We don't break out that type of information. But we obviously have told you that we did receive benefits from both of those efforts.

Okay (multiple speakers).

WPS tends to have been -- both strongly in both efforts. We can say that.

Okay, fair point. I just wondered on the guidance on the $1.10 to $1.30 year guidance, could you just maybe frame for us your thinking and your expectations to get you to one extreme of the other on that? I mean you are talking organic sales down a little bit more than you thought it was going to be and the margins -- looking actually a little bit better. The guidance is unchanged. So just kind of what your thinking is on kind of the ranges of that guidance?

Yes, I can answer that, Charley. I mean, frankly if the ranges are what you see, it's the $1.10 to $1.30. And what we factored in is basically just what we said, which is we absolutely expected are revenues will not come in where we had originally anticipated, but some of the efficiency gains that we experienced in Q1 will continue throughout the rest of this year. So I mean frankly it just so happens that as we balance those two out that we still end up within the range.

Now clearly things, of course, could happen in the future that would push us either above or below that range. However, the best view that we have today lands us within that range.

I'm not sure how else to answer that question.

Yes, I guess what I'm really trying to understand is it's a $0.20 range. It's a pretty wide range between low and high and we've got one quarter under the belt already. I guess I'm just trying to understand what would it take to get us to the low end, what would it take to get to the high end relative to kind of your mid-range thought process on that.

Instead of sales going down slightly, sales down double digits or up double digits? What's the swing factor that goes into the thinking to construct this guidance range?

Clearly, our biggest swing factor is organic sales. No question about it. As we look into the future and frankly as we look at what some of our channel partners have recently come out with and what some of our customers have come out with as well, I think that there is a fair bit of -- I would say a fair bit of challenge and really pinning down with our organic sales are going to look like for the back half of this year.

The low single-digit decline that we mentioned for the back half -- I'm sorry -- for the last three quarters of this year puts us within our range. I don't really want to get specific with respect to what type of organic sales would get us out of that range because there's so many variables that could factor into that, including what we do from the cost side, et cetera, and a mix perspective as well.

(multiple speakers) that's fair.

Our biggest question is organic sales.

Yes, that question helped. I'll go one more in here and I'll get back in the queue here. Just on the R&D expense was down about $1 million. You're citing timing differences. Can you just -- is that going to be up ratably over the remaining three quarters or is it kind of pop back up to normal here in Q2? Thanks.

No, it's interesting. As I noted, we've actually added engineers and will continue to add engineers. At the same time, we've been cutting out layers of inefficiency and so we fundamentally believe that we are moving in a much more efficient and effective methodology of creating new products than we had been before. We will continue to push innovation as a total concept into all of our base organizations.

We really went from a fundamental approach of a very, very centralized, autonomous, structured R&D group into one that was based in the businesses as much as possible. We obviously have more centralized efforts in materials and things like that but even that has been fundamentally baked into our key business factors.

So I think what you're going to see over time, although it may not be that apparent from the outside, is individual units owning innovation and R&D. And wherever possible, we do leverage the overall key core capabilities but we fundamentally push it, therefore the decision-making into the units that are accountable and that has been providing a lot more efficiency and effectiveness.

At the same time, as I said, we've been adding specifically in our purchase of PDC. We've been developing a lot more direct engineering than had ever been there in the recent years before we acquired it because of the nature of their previous owner, and even after we acquired it, as an example.

Thanks.

Absolutely.

Mig Dobre, Baird.

Maybe trying to drill in on what Charley was asking a little more. Aaron, if I look at your guidance and I look at what you guys managed to do this quarter, basically it implies that you have had roughly 30% of earnings, a full-year earnings, at the midpoint generated in the first quarter. And if I look historically, that's actually not what normally happens with Brady. You typically have call it 25% to 27% of earnings in the first quarter.

And really, the only years in which I can find you coming close to this 30% mark are years in which your business really struggled -- whether we had deterioration in WPS, whether you had inefficiencies and costs that were flowing through.

So my interpretation of your guidance is that you are in fact telling us that there's going to be some drag somewhere as the year progresses. And it's unclear to me how that is the case, given that you've had a good quarter and most of the issues surrounding facility consolidations are behind you. So sort of, what gives here?

So, let me address a couple of your points. First of all, you had mentioned anticipating operating inefficiencies. We absolutely do not anticipate future operating inefficiencies. We're clearly focused very much on improving the efficiencies not only within our factories of course but within our SG&A structure.

If you look at our guidance for the last three quarters of this year, there is a big drag and that is FX, of course. So if you're comparing this year to last year FX plays a very material part in our EPS. Frankly, it all comes down to the topline challenges.

So we don't anticipate operating inefficiencies. But we do anticipate challenges, I'll say more macro challenges on the topline and that's what's driving the trend that you see.

Okay, well, so maybe you can help me think of it this way. If we are looking -- leaving FX to the side, if we are looking at organic growth and maybe you're talking through on IDS. You now expect to be down slightly for the year. How do you see organic growth progressing here? Should we kind of brace ourselves for maybe a pretty challenged January quarter? I mean, to me, that would be consistent with a lot of folks in the industrial space for instance are expecting. Is that the message in here?

I want to be careful not to give quarterly guidance but I will say this. Our second quarter is typically our lowest performing quarter from a seasonality perspective and if you combine that seasonality with some of the order patterns challenges that we saw basically coming out of September and then through October, we absolutely are not anticipating, I'll say, a stellar Q2. But again there's a fair amount of questions surrounding what's happening from an industrial economic perspective and that's factoring into our topline challenges' anticipated growth or lack thereof.

And I understand you're not providing quarterly guidance. I just want to make sure that we have some proper ranges out there, because as I look at your guidance right now, to me it implies sort of trends that are fairly similar to what we've seen this quarter. And I want to make sure that I get that straight.

When you say trends from this quarter, you mean organic sales declines and improvements in margins? (multiple speakers)

I mean organic sales declines that are relatively modest and I want to make sure that that's kind of how you guys are thinking too. You're not thinking call it a meaningfully kind of worse second and third quarter with a rebound, say, for instance, in the fourth. Because if that's the case (multiple speakers) --

No. That is absolutely not -- very good and fair question. That is absolutely not how we're thinking about it. We're not thinking that's (multiple speakers) going to bounce back.

Okay and then can you maybe give us some color on the inefficiencies that you are still experiencing in ID solutions. Because to be very up front about it, I thought you guys had a really nice quarter there and you've done far better marginwise, I would've guessed, based on your comments last quarter in terms of inefficiencies stretching. So what's still going on there and what kind of drag are you experiencing?

Absolutely. I think I stated -- hopefully unequivocally -- that we did have a larger improvement rate than we had even anticipated during the quarter. Historically, I found that does happen. You just can't always time that and totally predict the timing of that.

That said, I believe this is the gift that will keep on giving. We have not reached what I would consider true operational excellence. Until we do, our drive is to get there.

I want to be quite clear, I do not believe you can save your way into prosperity but I do believe that you have to be efficient and effective. And we have an operational improvement areas across the board still. Labor efficiency, materials efficiency. All of the type of elements you'd want to talk about.

But in addition to that, we continue to see opportunities to make sure our employees are working on the most significant projects and needs of the Company as opposed to working on things that you might say could be theoretically good but aren't necessarily going to make a difference for our Company.

So that is not a reflection at all on the individual efforts of our people. That's a reflection of our leadership needing to make sure we have everyone focused on the areas that will make the biggest difference for our future. (multiple speakers) clear, we do see more improvements available.

I appreciate that, Michael. Maybe my last question would be that if you were to sort of frame the inefficiencies and say, for instance, on a scale of 1 to 10 the first quarter was a 10, do you see those inefficiencies dropping to 5 or to 2 next quarter? How can we think about that?

I like the question, I think it's problematic to answer in that we continue to expect improvements. I don't want to characterize it on a 1 to 10 scale.

You'll see some of these things end up in reality being a little lumpy because you make a breakthrough gain in an area and that will have a more significant impact within a timescale that you possibly anticipated. And we have some of those still available to us without characterizing it specifically.

So, I think the key issue is you should see a steady improvement over the year. Hopefully we will be able to do it in a manner that is lumpy but there is always a potential of that happening. But as I said I expect to see a steady improvement but not giant waterfalls.

Great, thank you.

Joe Mondillo, Sidoti & Company.

So first question, I know someone asked about cash flow generation. And the first quarter was one of the strongest quarters in terms of cash flow generation. And I just wanted to sort of follow up on sort of the working capital and inventory question that was asked before.

It seems to me that if you're in an environment where sales are sort of slightly even flat to slightly down you just made all of these plant consolidating and we haven't really seen in terms of the restructuring over the last year or so. We haven't really seen tremendous improvements or actually sources of cash through inventory. I would think there would be a lot more room to actually see inventory as a source of cash, especially in this year coming off the year where you made all of those consolidations of the plants.

I was just wondering why you held back from sort of thinking that inventory is going to be a source of cash?

Well, I can tell you this, we absolutely do look at inventory as a source of cash. The challenge that we have -- and actually it was a source this quarter, $1.3 million, I believe -- a source of cash.

But the reality is that you can build inventories very quickly as we saw last year but as you start to bring inventories down, it takes a bit more time. And that's frankly what we are experiencing right now. So you're right, we did improve inventory $1.3 million this quarter.

My comment with respect to the guidance looking forward is I wouldn't build into your models, it's a huge improvement in working capital. We obviously are striving to drive down inventories. We always strive on cash flow, on every piece of cash flow to be quite candid. However, we also look at it and say, this is a relatively slow decline in inventories.

Okay, in terms of use of cash, obviously I think CapEx and dividend are one and two. Stock repurchases, obviously you just announced another program. Just wondering how much you have of that in the guidance if at all, the EPS guidance.

We -- our typical practice is not to include any sort of share repurchases in our EPS guidance, so zero.

Okay.

(multiple speakers) Zero beyond what we already completed.

Okay and then just in terms of the administrative cost line. We've done a really good job of bringing that down over the last six quarters or so on a year-over-year perspective. I imagine that continues to come down especially -- or do you expect that to continue to come down? And do we get under $100 million on an annual run rate? Or how are you thinking about that administrative cost line?

Well, we absolutely anticipate our administrative costs to come down. If you look at what happened in the quarter, the biggest -- frankly, the biggest driver of the decline was foreign currency because our IT costs actually have been increasing and that's effectively been offset with some of the efficiencies in other areas.

Now, as far as a I'll say guidance on this line item for the rest of the year, I'm not going to give that level of granularity but clearly this is an area we are focused on. It's an area we've made improvements on; it's an area we anticipate making future improvements on but I'm not at the point where I want to put out I'll say formal guidance with respect to what this year's going to look like.

Now we did put out the three-year guidance back in September where we anticipate some nice improvements in SG&A over the longer term but beyond that, I don't want to get into the more shorter term, i.e., fiscal 2016 range.

Okay and just lastly, depreciation and amortization, you maintained the $40 million target. That seems to be very lumpy. So number one, why is that so lumpy on a quarter-to-quarter basis? And then number two, if you hit $40 million that does imply about a $2 million increase on a quarterly basis throughout the rest of the year compared to the first quarter what you realized. So just wondering if you could provide any color on that?

I can. So we put out the [D&A] guidance back in September of $40 million. As we and obviously to your point, we incurred less than that in Q1. Now as we look at this, the biggest driver of the lumpiness if you will, historically, has been foreign currency translation and as we sit here today, what could affect our actual D&A in the future is really the timing of our D&A guidance of $40 million. If that gets pushed out to the latter half of fiscal 2016, we most likely would come in below that $40 million. And actually we put one small nuance change into our guidance which is up to $40 million so we absolutely don't expect D&A to exceed $40 million this year but it may, to your point, come in slightly below that based on the timing of CapEx.

And in regard to the CapEx, what are you exactly spending on CapEx outside of sort of a maintenance spend?

We actually don't look at CapEx breaking it out between maintenance growth, et cetera. The main components of our CapEx will be continued IT investments because clearly digital is an area where we continue to focus a lot of time and energy and it's very important to the future of Brady.

In addition it's continuing to, I'll say, provide better more efficient equipment within our factories. What you won't see us spending CapEx on this year would be a lot of brick and mortar. It's more to drive efficiency this year.

And so the increase to D&A would be related to the equipment side of things?

And IT.

And IT, okay, thanks a lot.

Keith Housum, Northcoast Research.

Michael, if you don't mind, can you provide a little bit of color on the different sub segments within IDC? I know you guys stepped away from providing a lot of detail but I know PDC is sort of based on an area of yours that you've been focusing on improving. Can you provide little bit of color in terms of you know (inaudible) and verticals did better than the others and perhaps your thoughts about those going forward?

I will provide some. We certainly have shied away from that as we feel it hasn't been that helpful for providing who we are. But obviously you are looking at questions about the general medical space overall. We've seen admissions go down just slightly in Q1 versus Q4 although overall our space in PDC is healthy, and we believe we have the potential to capture more than our fair share, so to speak, of that space.

All right, thanks, and are you willing to talk about like the wire market space and the people and other segments as well?

We really don't want to break those out at this time. We've moved away from that because we think it's problematic to provide just a little color on those and not significant color and you get into a Catch-22 on that. I will tell you that we have key fundamental areas, as you know -- lockout, tagout, wire ID labels, printers, et cetera in the idea space. We are investing in our core technology spaces and those are all among those.

We believe they all have a good and strong future. And we don't have any anticipated plans to do anything but to continue some actual stronger investments that we've been doing in the recent years in all of those areas.

Okay, thanks. And then just a follow-up for you, Aaron. In terms of foreign currency translation, is it -- pertains to the bottom line, is that a relatively neutral impact on the bottom line?

No, no. It definitely is not a neutral impact on the bottom line. We are hit from two aspects. One is just normal translation. So the strengthening of the US dollar and the impact on our foreign financial statements. And then in addition to that, we are a net exporter out of the US particularly the -- out of our facility in Milwaukee.

So we get hit both on the transaction side as well as the translation side. So it definitely is impacting our bottom line.

And how much do you think it was for this quarter on an EPS perspective?

The translation is very easy to calculate. The transaction side is a little more tricky but we -- our calculation is somewhere in the neighborhood of $0.05 to $0.06 in total. So very significant to the organization.

All right, thank you.

George Staphos, Bank of America Merrill Lynch.

Thanks for taking the follow-up, just two quick ones.

One on Europe. It seems to be holding up fairly well for both businesses. If you could just talk about what you're seeing there. What are some of the drivers and what are you hearing from your customers with regard to Europe?

Overall, if you look at the European space, it is certainly not strong so we believe we've been able to do to our infrastructure, our organization and our product sets that overcome some headwinds in that regard but I would not claim to say that's a robust space or has been a robust space as an overall market. I think that is an indication that we have levers that we've been able to pull effectively in Europe that we are working to pull more effectively in our other regions, but at the same time I think the changes there have not been significant in that they've been fairly weak for a while.

Understood and then just last one, Mike. You spoke a little bit about innovation and investing behind that in light of the macro headwinds and then I think on the last call, you also mentioned taking a look at the product portfolio and maybe eliminating some SKUs that might not meet the return thresholds. So I was just curious to see your thoughts on how you balance those two within the organization?

Well, I want to make it clear, we are working on a product optimization project as one of our key focal points for this year. It is not a product rationalization program and there's a fundamental difference, that word is significant to us.

In many cases, we believe we have products that are underdeveloped. They are great products, great capabilities for our customers. We haven't properly marketed or positioned those in conjunction with our other great products, and we believe we can do that. That's first and foremost our primary effort.

But in addition to that, we do have product offerings right now that may have been good ideas, good concepts but fundamentally don't fit into our portfolio and effectively don't sell. In some cases, don't sell it at all. If we believe those products are ones that truly can't tie into our portfolio effectively then we will rationalize those out of the organization. And that will allow us to put more time into catalog efforts, into distributor efforts depending on the space, into our OEM efforts, and focus more on introducing new more innovative products into our set.

We do have literally millions of SKUs as an organization. I think that is fundamentally different than most companies that you'll deal with that are manufacturers. So that does provide a challenge for us that we are working to make sure we're maximizing the total potential through the particular products we have.

So threefold, one, let's look at the products we have that aren't selling that should be and how do we make that happen. Let's look at the products we have that really don't have any affinity to our customer base or current product sets and ask ourselves, should we end up eliminating those products? And third, let's take that open capacity so to speak and drive new innovation through that.

And what I said to you specifically and I repeat, the great news about our efforts of making ourselves more efficient and not cutting costs is that we are actually adding engineers to our organization for the specific purpose of innovation that we already know we want to do and we have targeted.

Thanks.

Charley Brady, SunTrust Robinson Humphrey.

Thanks, just a quick follow-up. Back to your earlier comments, Michael, on the sales trends you saw in the quarter. The first couple of months I guess it sounded like they were up and then you saw a drop- off in October. Could you maybe give us a little more granularity in kind of the cadence of sales/orders in the quarter?

Then, second question on the guidance. What exactly is your FX expectation for sales that's embedded in the current 2016 guidance?

Let's start, Charley, with the trend we saw in the quarter. I think we actually said in our comments that we saw positive growth although not strong but positive growth through the end of September. Then the decline and it also correlates with the decline that we've seen throughout our channel partners, our customers -- the industrial comments that we've been getting back really started to take place at the beginning of October.

Some of it has started to take place mid-September but that didn't overcome what had been a growth story for the quarter, albeit a small one. But in October, we definitely saw enough downturn that that reduced and eliminated that trend.

So I think that's the color that we have on that but I think you are seeing that story from all of our channel partners that have publicly communicated, and you're seeing that story from a lot of the OEMs, et cetera, right now in the industrial space.

I'm sorry. Charley, as it relates to the FX, the expectations that we built into our guidance are FX rates consistent with October 31. So the end of our quarter. So what that will result in from a topline perspective, assuming that those rates go unchanged for the rest of the second quarter, would be a pretty significant decline in our top line as a result of foreign currency in Q2. And then that moderates quite significantly in the back half of this year because the real -- the biggest drop, I'm sorry -- the biggest improvement in the USD really happened call it in the December and toward the end of our second quarter last year.

So you'll see a big impact in Q2, significantly moderated in Q3 and Q4.

There are no further questions in queue.

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Operator, could you please disconnect the call?

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