Carlisle Companies Inc (CSL) 2008 Q3 法說會逐字稿

Good day, and welcome to the Hawk Corporation conference call.

Today's conference call is being recorded.

At this time, I would like to turn the conference over to Mr.

Ronald Weinberg.

Please go ahead, sir.

Thanks.

Good morning, everybody, and thank you for joining us.

This call is to discuss our 2008 third quarter and nine month year-to-date financials.

Conducting the call with me is myself, of course, Ron Weinberg, Chris Disantis, who's President and COO of Hawk; Joe Levanduski, Vice President and CFO and Tom Gilbride, Vice President of Finance.

As you probably know, we released earnings today for the third quarter ended September 30th, 2008.

During the call today, we will review the financials, give you an operating update on the Hawk businesses, and after that, I will open the call to questions.

I would like to remind everyone that statements made during this conference call which are not historical facts may be considered forward-looking statements.

Forward-looking statements involve risks and uncertainties that could cause actual events or results to differ materially from those expressed or implied.

For further information concerning issues that could materially affect financial performance related to forward-looking statements, please refer to Hawks' quarterly earnings releases and periodic filings with the SEC.

Well, needless to say, we are very pleased with the quarter.

For those of you who have seen the results, you know that our sales were up and I'm going to comment on the nine months before turning this over to Joe and Chris for further detail.

Our sales for the nine months through September were up 31.6%.

Our income from operations were up 124% and that's an increase of 124%, not just a percentage of, and our net income from continuing ops was 20 million -- 20.3 million versus 5.7 million for an increase of 250%.

And I would call everyone's attention to the significance of the continuing ops because when comparing it to '07 -- that includes in early '07, the sale of Powdered Metal business, which had a gain that was represented in that income, but of course, is not included in continuing operations.

In addition, our balance sheet contains approximately $87 million of cash and short-term securities, which are typically in money market instruments, mostly governments and government agencies.

The benefit of this, of course, is that it happens to coincide almost exactly with offsetting our debt, so in a sense, someone can make a notional calculation that we are debt free on a notional basis.

And that amount of cash computes to approximately $9 a share.

And one of the real questions that will underline the thread of what we'll try to talk to you about today will be giving you some insights into what happened -- insights into the sustainability of what we're doing.

We're not issuing '09 guidance yet.

Typically, we don't issue it until later, right at the beginning of the year, and this year, in particular, it certainly is difficult to forecast.

These are unusual times, which I don't need to tell anyone.

The first question will be what were we experiencing during this year because we've got unusually attractive results.

First of all, I'll remind everyone of the characteristics of our business.

We're a global business; we operate all over the world and many of the economies, certainly up until now, have been doing very well.

We serve a number of markets, so we've got variety, and they really lined up very well this year.

You know the markets we serve -- mining, military, agriculture.

It goes on.

And they were all doing very well for us.

Overlaying that with the business culture that we have here at Hawk and Wellman is a culture that I think has -- we've talked about a lot in the past.

I talk about it in most of the calls, how we compete, what are the competitive tactics that we do, and I think they have stood us in good stead -- our lean manufacturing culture, our Six Sigma culture, the fact that we are localizing our sources of production at this point in time.

The three methods of competing that we talk about a lot, having world-class operations, our customer intimacy and understanding, and the technology that we apply to our business, the Friction business.

We believe that because of those things, we've been gaining market share and these have all been important contributors to the results of this year, and then Chris and Joe will drill down into that further when they talk in a couple of minutes.

The important issue will also be the visibility going forward.

At this time, we aren't issuing guidance, as I said before, and it's really hard to have a great line of sight into the future in the sense that the world is going through some sort of a slowdown.

We don't really see it right at this moment in our numbers, but we really can't refute the proposition that at some point, these things could touch any market in the world somewhere.

So we have to have a sense of prudence and caution as we talk about what the future is.

What I'd like to talk about right now is the characteristics of what we're all about as a business and remind people of some of the businesses that we're in because I think these things will serve us well, certainly on a relative basis going forward.

We make wear parts.

Our parts wear out and so I think history has shown that we are -- operate on a smoothed basis from the cycles that a capital goods manufacturer would normally have; in other words, a capital goods cycle would tend to be smoothed over by the fact that wear parts always need to be ordered.

We're well positioned to take market share.

We think that we have executed very well and we have very good relationships with our customers, so while there may be ups and downs in the marketplace, we really believe that we have very firm, good relationships with our customers, particularly the big OE ones.

We're in a lot of markets, so as the world changes and evolves, some may have slowdowns; others probably won't, and we think we'll be the beneficiary of that diversified portfolio of markets and geography that we serve.

In addition, we're in a couple of very interesting places.

There's a lot of talk right now about infrastructure, important to the world, being built overseas and a lot of political talk about it being one of the focuses in the United States and of a new administration.

And I would remind everyone that a lot of the parts that we make go on equipment which really serves in heavy infrastructure building, large construction projects, roads, things of that sort.

The other thing that you now see on our income statement is alternative energy.

We make components for fuel cells.

As of this year, we have begun to report it and give it visibility.

We're a manufacturer of components for stationary fuel cells.

It's listed in our pie chart at .8% of sales for the first nine months.

It's small, but it's growing.

It didn't even make the side line last year, and we think it's a very interesting future for us.

Our balance sheet going forward we think is going to be a competitive weapon.

We've got cash for projects.

We've been looking at acquisitions.

We're cautious and focused in doing that, but we're a Company that was built in the '90s on acquisitions, so when we see something we like, we certainly know what to do about it.

In addition, in a world that is in somewhat disarray, having a balance sheet like this, there's a lot of comfort for our customers.

They know we're going to be around and we're certainly not bashful about using that as a competitive force in what we do.

So with that as a background, I'm going to turn this over to Chris Desantis, who'll give you further detail on the operations.

Thank you, Ron.

I'm going to focus my comments today on sales in the end markets.

We're very pleased with the excellent results in the third quarter.

We finished at 74.2 million in sales, up 22.7 million or 44.1% from the same period last year.

The growth was really fueled by four factors, the first being strong demand in almost all of our end markets; the second one being new products that were coming online and the development of new customers to serve.

The third factor was price increases that were implemented, both in accordance with existing long-term supply agreements that were in place, as well as general increases to offset what we've seen as rapid inbound escalation in the raw material costs.

And the last factor, the fourth factor, being favorable foreign currency rates, particularly with respect to the euro.

Of our total 44% increase in the third quarter, volume accounted for 24.3 points.

Pricing was 14.4 and favorable exchange accounted for 5.4 points of the total increase.

We've been successful in growing in almost every single market segment that we serve.

Like Ron said, there are a lot of markets that we serve, the largest contributors being construction, mining, aircraft, defense and agriculture.

For example, construction and mining, our largest segment, was up 50.9% in the third quarter, driven largely from international demand, particularly in the Brit countries.

Agriculture as a segment was up 50% in the third quarter on strong market conditions we saw in North and South America.

Aircraft and defense were up 63.7% due to strong demand, particularly from the U.S.

military, and heavy truck was up 7.8% on domestic demand growth as the impact of the 2007 emission standards change negatively impacted our results last year.

Our direct after-market sales under the premium position brands of Velvet Touch and Hawk Performance were 7.2 million in the quarter, which was up 4.3% over prior year, and that growth was less than expected and less than we'd like, on light demand that came from two large international customers in particular.

Sales from our international facilities, Italy, China, Canada, represented 39.9% of our total sales, as compared to 38.9% in the prior year, and looking at things on a local currency basis, in euros, the Italy operation, sales were up 38.4% and in RMB, the China sales were up 19.6% during the same period.

And with that, I'll hand it off for further comment to our Chief Financial Officer, Joe Levanduski.

Thank you, Chris.

I'll start talking about the gross margin and work our way down the income statement for the third quarter of 2008.

Our gross margins improved 33.9% from -- to 33.9% from 22.8% in the third quarter of 2007.

The major contributor of this improvement was the production volume that we experienced during the quarter.

The Company also benefited from lower cost [field] inventories flowing out of inventory during the quarter and a strong product mix that we experienced.

This FIFO benefit will not continue through the remainder of 2008, as our higher priced inventory will be matched with sales on a go-forward basis.

As a result, gross profit was up 13.4 million to 25.1 million for the quarter, 114.5% increase over the prior year quarter.

Operating expenses increased 2.3 million to 9.3 million for the quarter or up 32.9%.

Increased incentive compensation expense and salary and wages totaled 15.2 percentage points of the 32.9% change.

The strong operational and financial performance led to the increase in incentive compensation expense, as this program continues to be at the core of our belief of meritocracy within our organization.

Income from operations totaled 15.6 million for the third quarter of 2008, an increase of $11 million or 239.1% compared to 4.6 million in the third quarter of 2007.

Interest expense was comparable to the third quarter of 2007 at $2 million versus $2.3 million last year and to refresh everyone's memory, we had a bond tender that occurred in August of 2007 that lowered the total debt down by approximately $23 million at that point in time.

Interest income dropped to $.5 million for the quarter from 1.1 million in the prior year quarter, owing to the lower cash, as I mentioned, on the bond tender, and also the lower interest rates that we are experiencing this year versus last year at this time due to today's climate.

Other income was up 1.2 million in the third quarter of 2008.

$1.3 million of the change actually was reported in the quarter related to a contractual cancellation of a portion of a joint development project that we are working on.

The effective tax rate for the organization was 32.8% in the third quarter and 34.4% for the nine months ended September 30th of 2008.

During the year, we had benefit from certain one-time items, as well as ongoing statutory law changes.

Excluding the one-time benefit, the effective tax rate for the Company on a full year basis would have been 36.7%, which is our new guidance for the fourth quarter effective tax rate, the fourth quarter of 2008.

And I'll touch upon the rest of our guidance in a moment.

As a result of the above factors, diluted earnings per share for the third quarter was $1.09 per share versus $0.18 in the third quarter of 2007.

On a year-to-date basis, earnings per share -- and I'll just speak to continuing operations -- at September 30th, 2008, was $2.15 versus $0.61 last year.

So a very strong year for us through September 30th.

Turning to the balance sheet, our cash and investments totaled $87.1 million, up almost $10 million from the end of the second quarter and providing the Company with net debt of zero, as Ron mentioned earlier.

Accounts receivable at September 30th was $50.4 million, driven largely by the strong sales activity.

Accounts receivable was actually a source of cash during the quarter, reduced from 55 million at the end of the second quarter.

The inventory has increased approximately 3.6 million since the end of June, with the significant component of this increase linked to the higher cost inventory that we experienced during the quarter.

Absent this cost increase, our lean focus and localization projects have allowed us to continue to control our inventory levels while continuing to support the high level of demand from our customers.

Based on the strength of the first nine months activity and looking at our guidance, we are looking at raising our revenue guidance to approximately 270 million for the fiscal year ending December 31st, 2008, and that includes our expectations for the fourth quarter.

This new guidance represents roughly a 25% increase over our prior year results.

The revised guidance includes our anticipation that the impact of working capital fluctuations, driven by our customers holding back receipt of shipments at the year end, which is a normal occurrence for us, may be more significant than in past years, given the current economic climate.

And it also includes our view that the foreign currency exchange rate will be lower in the fourth quarter as opposed to the first nine months of this year.

We are also increasing our estimate for income from operations to between 38 to $39 million, up from our previous guidance range of 28 to 30 million.

This represents roughly a 95 to 100% increase over our 2007 income from operations of 19.5 million.

Our new guidance does include the effect of higher cost inventory on the Company's fourth quarter operating results that benefited us in the third quarter.

We are also revising downward our expectation for capital expenditures to a new range of between 16 to $18 million from approximately $20 million that we reported at the end of the second quarter.

We are committed to maintaining progress on our key initiatives with respect to increasing worldwide capacity and lean manufacturing projects, but we'll continue to be diligent in scrutinizing the extent and timing of each project in light of the current economic uncertainty.

The only other guidance that we changed as a result of our operating results I mentioned earlier was in respect to our effective tax rate, and the effective tax rate for the fourth quarter is now expected to be 36.7%.

With that, I'll turn the conference back to Ron for closing remarks.

Okay.

Well, now we'd like to take questions if any of you have them.

Could we have instructions from you, Aaron, as to what they should do?

Certainly.

(OPERATOR INSTRUCTIONS).

It looks like our first question comes from Eric Swanson.

Go ahead.

Hello, guys, wonderful quarter here.

Thank you.

(Inaudible) question.

I noticed that your cost of goods sold as a percentage of sales were down significantly to about 66% and with your raw materials increasing, can you elaborate just on how you were able to control those costs and what drove them down so much?

Oh, from an inventory perspective, we are on a FIFO basis and it's what we alluded to in our disclosure.

We benefited from the fact that although steel prices have increased, we have capitalized a significant component of that and it's part of the reason why our inventory levels have increased from the end of the second quarter.

Earlier this year, through our buying practice, our inventory costs were controlled to a certain level, and as we have seen and experienced the higher cost inventory, much of that is tucked away in our inventory, based upon our accounting methodologies in inventory through capitalization of those variances.

It's also a reason why, as we look at our fourth quarter operating results, we should see the flip of that as higher cost inventory will be matched with sales on a go-forward basis, yes.

And I'd like to add -- let me add something to it as well.

We were successful from a timing standpoint in being able to match the timing when we were able to secure raw material price increases, if you will, from our customers at the same time that the inbound raw material price increases were coming in.

So we were able to neutralize, from an income statement standpoint, the impact of all the raw material cost increases we were seeing.

And when you're able to do that and the business is growing as fast as it is from a volume standpoint, then you see the real pull-through of demand in being able to leverage the overhead through higher volume.

Combine that with a lot of the things we've been doing with lean manufacturing to cut costs, and the result is good pull-through through a combination of timing and leverage.

Okay, great.

And on an FX front, can you give us a sense of how much the decline in the euro has impacted operating results?

And I guess a little more specifically, for roughly every $0.10 decline in the euro, roughly how much does that impact your earnings?

Well, in the third quarter, it really didn't have an impact.

We saw -- during the quarter, the euro continued to increase quarter-over-quarter.

As we go through the balance of the year, the euro -- we do expect the euro to fall through the balance of the year.

And as we indicated, about -- from a standpoint of a percent of our revenues, we look at -- approximately 40% of our revenues are coming out of the -- or 38% comes out of Italy.

So that will have an impact as we go forward.

We haven't guided to it, but it will have some impact in the fourth quarter and probably into '09, depending on the pace of the euro.

You can make your own estimates by just checking what you see is the euro and checking the delta on that and then just applying that to the way -- because that's what we do.

We try and [set] the currencies back.

Yes, from an income from operations -- go ahead.

Were you saying something?

No, I was just --

Oh, go ahead, I'm sorry.

I was just going to point out that from an income from operation basis, the effect of foreign currency exchange rate, which benefited us this year compared to the prior year, accounted for 17.6 percentage points of the total operating income increase of 239.1%.

So it was a small component of our pull-through of the results.

Obviously, the exchange rate through the third quarter, I think the average was somewhere in the neighborhood of $1.50 --

$1.55.

-- to the euro and right now, we're seeing about $1.30-ish.

I haven't seen that recently, but somewhere in that neighborhood.

And you're seeing great customer demand in your end markets.

Are you guys anticipating any softness throughout the remainder of the fourth quarter in any of those end markets?

Yes, we really -- we haven't -- you see what our guidance is.

Yes.

In our estimates, we're not seeing anything real-world right now, but the fourth quarter, I remind you, is always one of our softer quarters, just because of the holidays, shipping patterns.

We have less production days and then sometimes, customers don't want to receive shipments right at the end of a year.

So we always experience those kinds of things.

And then everything I'm saying about this, I have to overlay, which -- the point you all know, of course, as well or better than we dom with what's going on in the world.

So it was the reason for my cautious comments in the beginning.

Just -- we have to estimate somewhere, somehow, some of these things might affect our markets.

Can you address the standpoint -- obviously, you sell many of your products into the European marketplace, but I think on the last conference call, you said that they're shipped throughout the world.

Have you seen any slowness in any of the other countries where your products end up, mainly the -- Brazil, Russia and Euro-China countries?

I think it's consistent with our -- I think the way to look at our products is truly on a global basis and not look at any particular segment.

Just because we make the parts in the USA, Italy or China, it doesn't mean that ultimately, the component that goes into and then the vehicle that that ultimately goes to is sold in that market.

So you need to look at the sales and the guidance, all in accordance with kind of a global demand.

So from a global demand standpoint, we haven't felt it yet in our numbers, but as Ron said, as prudence and cautiousness would suggest, I think we've reflected some of that in our guidance.

Okay.

Thanks for taking the questions and a great quarter.

Thank you.

Thanks.

Thanks.

Our next question comes from Eli Lustgarten.

Please go ahead.

Good morning.

Hi, Eli.

Hi, Eli.

Hi, Eli.

A couple of questions -- the biggest one is do you have an estimate or some idea of how much the FIFO benefit was in the quarter because you see this number as big as it is, obviously, terrific volume, but can we get some idea of how much the FIFO accounting helped?

We haven't really broken that out, so I think we have to be silent on that.

I don't think it's in (inaudible).

No, it's not.

I guess if you -- because if you look at prior guidance, I guess the expectation was somewhere probably in -- and we had a 35% estimate, I think, for the quarter.

And so far, I know $0.09 comes from the cancellations of joint venture and $0.16 from currency, which is unexpected.

That's $0.25 and the expectation is that there's a good $0.50 a share of something from the accounting benefit up there.

Is that a way-off kind of crazy number or is that --

Yes, I think that's large.

I mean, we also -- business was good, so we had things like product mix, we have things like revenue.

So all of it was not pricing or FIFO.

Yes, I'm saying because your guidance for the fourth quarter is about roughly $0.25 a share the way the mathematics will work out, if I did my numbers correctly.

And $0.25 a share from $1.09 is a big swing and it's not pure -- just because sales are quite a bit lower, I recognize, but there's got to be a huge factor in the accounting basis that --

I wouldn't -- we wouldn't -- we're not going to disclose a specific number, but I wouldn't classify it as huge.

Yes, what I want to point out -- and we did disclose this during the quarter.

We had -- our cost of sales increased to roughly 23.4%.

Of that volume, it represented about 19.1 percentage points of that change.

Volume had a very significant impact on our operating performance through the quarter as we set an all-time record in terms of revenue and production volumes.

Yes, I think a bigger factor, Eli, is also just absorption of overhead.

We've got fixed costs and when we have a better quarter, which Q3 was than Q4 will be in terms of sales, that makes as much, or more, of a difference probably than FIFO.

And can you measure how much of the big volume difference was -- a year ago, we're still having the problems of getting production out the door.

How much of it is (inaudible) demand and how much is a very favorable comparison because of the production problems that we had?

Again, I don't know how to quantify it, but we have -- since a year ago, we've made steady progress.

When we talked about all these things, we would say Tulsa is getting better, we're working on lean and all that, and those are words, but underneath it, there would just be project after project where we were getting better.

And that improves our margins, and if I'm answering your question.

Are you asking, are we in a position where we're working down a lot of past due?

Is that what you're --

Well, I guess what caused the big step-up in demand that I'm looking at.

The comparison looks like it's just a very easy comparison versus a year ago.

I guess the (inaudible) I'm having is second quarter volume was 71.8, the third quarter volume was 74.2, but roughly 2.4 million in sales, I've got a dramatically different profile in the profitability of the business.

And I'm trying to understand the difference between -- the dramatic difference in the profitability, even though I know you had some of the cost benefits all year because of FIFO accounting, but it's just an enormous --

I think, Eli, there was no one golden arrow.

It's one of the reasons we're having some problem answering the question because it really was a whole lot of things that happened at every one of the things you've touched on.

Business was good, our product mix was good.

As we mentioned in the release, there were some price increases built into some long-term contracts.

There was -- I'm just trying to think what else.

And we believe we're gaining market share.

We're getting new business.

Yes, I would put a lot of emphasis too on the mix factor.

I mean, we sell a lot of different products in a lot of different markets and they're different from quarter to quarter, and we don't give gross margins by product or by segment, but I can tell you that does have a major effect.

Okay.

Well, as I said, it was a brilliantly executed quarter.

I'm just trying to say, we'd like you to keep it at that level.

You're right.

We accept that.

Thank you very much.

(OPERATOR INSTRUCTIONS).

I'll take our next question from Beth Lilly.

Please go ahead.

Good morning, Ron, Chris and Joe.

Good morning, Beth, how are you?

Good morning.

Good morning.

Good, how are you?

I didn't mean to leave Tom out of it.

No problem, Beth.

Sorry, Tom.

I apologize.

He was feeling very left out, but (inaudible).

I know, I apologize.

I had a couple of questions.

One is could you -- so the revenue growth was 44% in the quarter, okay.

What percent of that was volume and what was price?

Oh, from a revenue --

Yes, I have that for you.

Which two quarters are you comparing?

Well, year-over-year.

The third quarter of 2007 and the third quarter of 2008?

Yes.

Yes, that's got the (inaudible) in it.

It was -- 44 points was the increase; 24.3 was volume; 14.4 was price and 5.4 was for ex.

Okay.

All right.

So I guess the key number I want to focus on is the fact that your volumes grew 24%.

Um-hum.

Is that a function of -- when you talk about just business being good and the products being -- the mix being good, are you selling -- well, the product mix, of course, would be leading to higher margins, but can you talk about that 24% increase in volume and why it was at that level?

Yes, I mean, it's a combination of factors.

If you look at the markets we're selling into, through the third quarter, there was still strong general macro-economics, whether it's in mining or agriculture or some of the other ones.

So there's a general [pull] effect that's coming from the market.

And the other thing I mentioned is we just -- we have a great sales team within this Company that's done an excellent job in securing new business and winning new programs and taking market share, and we're very good at out-hustling the competition when it comes to selling our technology and the competitive advantage that we offer our customers.

So we're just winning new business.

I mean, that's what I can tell you.

Okay.

If I take your increase in guidance from '07 to '08 in terms of your revenue number, it's -- we'll see about 20% revenue growth, okay, from the 224 to the 270.

Is that a sustainable number going forward?

You mean the 24% or the 270?

Well, the -- we're going from 224, which is what you did last year, 224.7 million, okay, to 270 and the percentage change is a little over 20%.

So my question is, Ron, is 20% sustainable or do we need to ratchet that down?

Yes, well, we haven't given guidance and to say that that's sustainable would be to guide at a 20% level, so we can't do that, but that is a big number.

I mean, you know that, so --

Okay.

I think there's a lot of uncertainties right now.

While we think we have, as Chris indicated, a great sales team, we're winning market share.

There's some macro-economic conditions out there that could affect us, even with a better product.

So I think our concern right now, and the reason we're not doing any guidance for '09, is just to see how some of this uncertainty settles out between now and as we get into the beginning of the year.

One way you might try to just aggregate these things for yourself is -- I mean, the way we look at it, we haven't completed.

Every time we think we've done some sort of a forecast for '09, conditions are changing, as you well know, week by week.

So we really are in flux ourselves.

However, it's the reason I talked in the beginning of this conversation about the attributes of what we are all about because there's some of those things that are going to remain good -- our globalization, the fact that we've got momentum in operations.

The fact that we do seem to be taking market share is strong.

That doesn't change in four or five weeks.

The thing that we don't know is what kind of quantities is -- I'm just making this up -- distributor X in Russia going to be ordering for his parts?

If that economy stays strong, it'll be the same; if that economy gets weak, then those quantities might be less, but if you look at the combination of after-market business and OE that we've got, let's assume some OE bills slow down in some particular products.

Obviously, the after-market might well stay even or even grow, as more people refurbish old equipment.

So we build our own thinking around sort of combinations of those models.

How do we stay ready and strong in terms of new business awards, even if some of those other things happen?

And we don't have quantitative guidance on them, but that's the way we think about it.

Okay.

The other thing I think that'll affect us is foreign currency.

I mean, we've benefited this year.

Strong, local sales increases were further benefited by the strong foreign currency exchange rates.

Even if we continue with strong local sales increases going forward, we really do expect that foreign currency won't be as strong going forward.

We don't have a crystal ball.

We rely on other people, but I'd have to say they don't have a crystal ball either, so we do expect that foreign currency won't be as much of a benefit in that increase that we saw in '08 going forward.

Um-hum.

You'll continue to get the pricing though?

Yes.

Yes, yes, yes, okay.

Okay.

The next thing I wanted to talk about is your operating margin, which expanded -- this quarter was a bit of an anomaly, but still, it was extremely strong and if you take your guidance for '08, you get to a 14% operating margin, which versus last year of an 8% is an enormous jump.

Can you, in your -- you've done a wonderful job implementing lean with Chris pushing that initiative through the Company.

Can you talk about -- directionally speaking, I'm sure 14% is on the high end of what you can achieve, but can you talk about are there still -- how much of the improvement this year is going to come from lean and how much of it is sustainable?

Well, I think the -- again, we're not going to guide to a particular number and whether 14 is sustainable or what number is, however, we still have plenty of things that we're working on in the lean area.

As the phrase goes, I'm sure you've heard, it's continuous improvement; it never ends.

And we're working on -- the big part of lean right now that we're working on is localization because that lowers shipping costs to be able to source product or source inputs wherever we do our manufacturing, and that's not completed yet.

And we like to think that that's going to be very strong for us.

Overhead absorption is strong, so that's going to relate to volume levels, which again, will relate to that component of volume that's driven by the economy, wherever it may be and whatever it's like.

I think (inaudible).

Is this answering your question?

Somewhat.

I'm just trying to -- I'm trying to just understand is there -- in your mind, does there continue to be terrific opportunities within the Company to (inaudible)?

Oh, yes, yes.

Okay.

We haven't played that string out.

Yes, I think if you reflect back to probably questions that came from you earlier on asking if we can get our operating margins up to double-digits and we talked at that time about our focus on lean and the operational performance worldwide and localization projects and all those things, they probably didn't mean a lot to a lot of people until they started seeing the results kind of materializing.

Right.

And now the shift of the focus is, is this sustainable, which is rightly so, and the one thing that will be sustainable throughout this is our focus on lean thinking.

It's a core value of ours as we continue to look and explore and Chris mentioned the sharp sales focus and team that we have working here.

We've got smart people throughout this organization and they're all focused on it.

So there's tremendous opportunity throughout our organization worldwide, some more difficult than others to squeeze out, but they're focused and they're dedicated to doing that.

Okay.

Okay, great.

Well, just congratulations and keep up the good work.

Thanks.

We now have a follow-up question from Eli Lustgarten.

Good morning.

Just can -- you sort of indicated you hadn't seen any change in demand from your customer business and (inaudible).

Are you still seeing pretty good robust demand across the businesses?

I mean, heavy truck production, we know is going down in the fourth quarter.

Almost every phase of construction is going down in the fourth quarter, the aerospace market.

Even Ag is softer, so we're just sort of trying to figure out is something going on that you haven't see it, or is it -- your timing effect?

We haven't really -- we understand the paradox that you're talking about.

We haven't really seen it.

It doesn't mean it's not there, but it's not like our order book just dramatically declined or something.

We just -- we're going along.

We're acknowledging and it would be not prudent to think that it's not out there somewhere, but in terms of being some leading indicator, we can't really be one right now.

We haven't seen it.

And the effect of what happens from the market standpoints, it's called the general macro-economics of demand around the world for our products.

It's going to be diluted to the extent that we're more competitive than the other companies that are out there and we're able to secure new business.

So we've got a lot of new programs; we've got a lot of interesting things that we're working on, so there's not a one-to-one correlation between what might be happening, for instance, in the heavy truck market and what you see in our sales.

Yes, I think if you look at the fourth quarter, Eli, we guided -- if you squeeze out our guidance for the full year and we disclose it in our press release, our revenue expectation for the fourth quarter is expected to be approximately $58 million, which obviously, is down significantly from the third quarter.

And it takes into account a variety of factors, including the calendar in terms of working days, production days, shipping days, the holiday session, the working capital phenomena that goes on with us every year.

And as I alluded to earlier, we took into account the fact that we think given today's economic climate, that may be more impactful on us this year than in prior years, and we also took into account the fact that we're sitting here the beginning of November.

We've got one out of the three months kind of behind us, so we feel pretty confident in the guidance that we have out there, or else we wouldn't have put it in writing.

So I think it's all kind of factored in.

All these things that you mention, as well as all these other factors, have all been factored into our guidance.

Okay.

All right.

Thank you.

Thanks.

And our next question comes from Tony [Venturino].

Please go ahead.

Hello, good morning.

Good morning.

Good morning.

Good morning.

You'd actually just answered one of my questions about the Q4 guidance, so thank you for that.

How are orders in October?

Can you talk about that?

Have you seen weakness in October?

No, I mean, we're not going to comment on specific months, except I think we sort of touched on the topic you're asking about in our last few minutes of commenting, is that we haven't really seen the kind of slowdown the rest of the world is writing about.

It doesn't mean we won't, but it just hasn't quite hit that way yet, and I think the irony is, it's been this way for quite a few months.

Even the last quarter or two, the rest of the world has sensed some kind of economic slowdown and it just hasn't hit and it's probably attributable to some of the markets we serve.

They do relate to infrastructure building and some of these could be big projects that continue to go on.

They don't stop suddenly.

So we just aren't a good leading indicator that way for us.

Okay.

And then how about the mix?

You're saying that the mix contributed to the significant gross margin this quarter.

What changed between, say, Q2 and Q3 and will that continue?

Will this current mix continue going forward into Q4?

Yes, we really don't know.

We have a lot of different products.

As with any mix, with any customer, some have decent margins; others don't have as good a margin, and it's like the stars lined up right for us in terms of mix this quarter.

Right.

Okay.

So nothing in particular really stood out?

I mean, you had big growth in a lot of three of your big areas, so --

They've all been good.

Some of this has been fortunate, this unusually good quarter.

Okay.

And would you expect that to continue?

I don't want to comment.

You can see it in relation to our other quarters, so I'm not going to comment in terms of guidance, but it was an unusually good quarter.

Okay.

And then also you appear to be guiding to about 7 million of cap ex in Q4?

Um-hum.

That's correct.

What do you plan on using that for?

That seems like a pretty big number, given the historical for the past 18 months or so.

Yes, yes.

Generally, projects related to lean and expanding capacity.

Okay.

We did announce, I think the last call, that we were in the process of expanding a number of our facilities.

The biggest project right now is in Ohio.

There will be a call for capital for the plant addition, as well as equipment that's needed, and that's really to support, as Ron said, some lean projects, as well as the expected revenue growth, support revenue growth, from a lot of new customer relationships.

And then I had another question about the cash and what's kind of going on with the -- where you're storing the cash these days.

I was reading in the Q that you got out of commercial paper, is that right?

We had historically with the cash that we had, because there wasn't a current need for it.

We were in the commercial paper -- the corporate commercial paper markets.

When that market became pretty unstable in September, we allowed those commercial papers to mature and as they matured, we have gone into Treasuries, government agencies.

So what we've done right now in the interim is move to safety.

We evaluate that.

We see the markets starting to thaw up a bit.

We'll make decisions as we go forward as to where we want that cash to be, but right now, the bulk of our money is in Treasuries and agencies.

Okay.

Did you suffer any losses in the new -- any meaningful losses?

We didn't suffer any losses.

Okay.

I mean, as you can see in the Q we've showed gains on that.

All of the commercial paper matured and was paid off as --

Our philosophy here was always safety.

I mean, it was always highly rated commercial paper.

These are such strange times, you have to even examine that philosophy in order -- to get how to execute it and we decided to into governments.

And then the trading securities, you said that you kind of have realized and unrealized of -- is it 100 million or 100,000 loss?

That's 100,000.

That's actually related to our deferred comp program, but yes, it's 100,000 for the quarter.

Let me clarify this.

On the short-term investments and on our cash, we don't trade that stuff.

We buy something, it matures and we replace the money.

Okay.

It just seemed strange because -- maybe I'm reading it wrong, but sometimes, you have marketable securities and sometimes you have short-term investments.

I'm just trying to figure out the difference if there was anything there --

On a going-forward basis, the balance sheet will reference the non-cash or cash equivalents as short-term investments.

Okay.

That's just a nomenclature change that we made for going forward.

So it really is made up of the same type of assets, but it's just a change on the balance sheet, no difference there.

Okay.

And then one final one, you'd said that the Italian facility had an increase of 5 million in cash.

Is that strictly because of timing and collection of receivables, or did you change the terms there?

Well, I think Joe mentioned that receivables went -- there was cash generated from a reduction in receivables.

That's just collection.

There was no change in terms and --

Yes, that was on a consolidated basis.

Our receivables at the end of June in our last reported 10Q was 55 million and it declined to 50 million throughout the -- it continued strong top-line revenue growth.

So it was just a point to make that receivables is actually a positive cash (inaudible).

And that was in Italy?

There a line in the Q that said that you increased cash in Italy.

Sorry, did you say that was yes?

The discussion that I was talking about about second quarter to third quarter was actually driven by a consolidated comparative.

Okay.

Within the Q, I think from a cash flow statement -- well, do you have that, Tom?

To be honest with you, I don't know that we specifically indicate -- no, we do, I'm sorry.

Cash at our Italian facility did go up 5.4 million and that's really just again, to the point of the receivable collections just the -- as sales increased throughout the year, we were seeing this buildup of receivables.

And as we've now moved in through the third quarter, while sales are still continuing, a lot of that collection cycle is turning and we saw an increase in collections during the quarter.

So that was the reason for the reference to the receivables.

The bottom line is Italy is generating cash.

Yes.

Yes, it's business as usual.

There have no structural or policy changes with respect to (inaudible) business.

Okay, that's sort of what I was kind of driving at.

Yes, I'm sorry about that.

Oh, that's all right.

All right.

That's it.

So congratulations.

Well, thank you.

Thank you.

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Okay.

Well, thank you, everyone.

We appreciate you joining us and we're always happy to talk with you.

Thanks.