Diebold Nixdorf Inc (DBD) 2007 Q1 法說會逐字稿

Good day, everyone, welcome to the Diebold Inc. first quarter 2007 financial results conference call. Today's call is being recorded.

At this time for opening remarks and introductions I would like to turn the call over to the Vice President and Chief Communications Officer, Mr. John Kristoff. Please go ahead, sir.

Thank you. Good morning, everyone, and thank you for joining us for Diebold's first quarter conference call. Providing remarks today are Tom Swidarski, President and Chief Executive Officer; and Kevin Krakora, Executive Vice President and Chief Financial Officer. Just a few notes before we get started. The replay of this conference call will be available later today from our website. As a reminder, some of the comments may be considered forward-looking statements. As a precaution we refer you to the more detailed information that we have filed with the SEC. Now with opening remarks, I will turn it over to President and CEO, Tom Swidarski.

Thanks, John. Good morning, everyone, and thank you for participating in our call this morning. We continued to make steady progress during the first quarter despite what we thought would be a challenging first part of the year. Around the world our employees are very engaged as we have worked to realign our global manufacturing, bring our IT operations and ERP deployment back in house, instill pricing discipline, and improve our product quality and service all while reducing our cost structure.

During the quarter Kevin and I had the opportunity to visit several of our international operations to assess how we're doing on this front. We have recently returned from visiting our operations in Brazil where we spent a great deal of time learning from a number of bank CEOs to gain insight on issues that are driving their business. I learned how our Brazilian operation is applying best practices to meet the needs of that marketplace. This kind of focus on customer issues has made us the clear leader in Brazil. I have empowered our team in Brazil to fully assist us in applying this approach globally. This is especially true in software and managed services where Brazil has been very successful in packaging these elements for a complete end-to-end outsourcing solution. As software becomes increasingly important for us globally, we will learn a great deal from Brazil since they have a track record of success in this space.

I said during our last call that software would be a key area of improvement for us in 2007. You will see a number of strategic announcements in the coming weeks as we begin executing on our plan to significantly strengthen our competencies in this area. By contrast I was not as satisfied with our Australian operation after my recent visit there. While we have many viable business opportunities, I don't feel we have effectively integrated our security acquisitions with the self-service business. As a result, we are not fully realizing our potential. I have directed our leadership in Australia to address this fundamental issue immediately and develop comprehensive plans for significant improvement. This continual interaction I have with our customers, business partners and our operations is an important component of our improvement plans.

Overall, I am pleased with the positive steps we've taken and feel our condition has improved dramatically over the past year. Clearly we still have a lot to accomplish, but I believe we remain on target to reach the long-term goals we have established. I would like to spend the next few minutes reviewing progress in the operations during the first quarter.

Strengthening our manufacturing position in EMEA has been a top priority for the Company since I took over as CEO. I am pleased to report that we're coming to a conclusion with a closure of the facility in Cassis, France. In March we finalized an agreement with the remaining Union that was legally challenging the closure of the facility, and all of the Unions have agreed to the related social plan. By the end of the first quarter we had transferred all usable inventories and production equipment to other locations. The sale of the building continues to progress, and we anticipate closing the transaction with the buyer during the second quarter. We also continue to ramp up production at our new manufacturing facility in Budapest, Hungary, producing about 1,700 Opteva ATMs. We're on target to produce around 10,000 ATMs in Hungary in 2007. The facility is now the primary source of ATMs for the Diebold EMEA market. I believe we now have an optimal manufacturing footprint with strategic locations in Hungary, India, Brazil, and China and a Lean operation in North America with additional opportunities to reduce manufacturing costs and build a more competitive cost structure. This is a key aspect in keeping us on track to achieve our corporate operating margin of 11 to 12% in 2009.

The restructuring process surrounding our European manufacturing was lengthy and arduous, but vital as we worked to achieve our long-term profitability goals. This is the same painstaking, determined approach we are taking to improve key operational areas throughout the Company. We are facing many other similar challenges in our pursuit to achieve a more acceptable level of profitability, and we're addressing them with the same type of vigor and attitude.

We continue to progress with our global ERP implementation. During the quarter we were transitioned to the Oracle platform in the Hungary facility and implemented the Oracle I procurement module globally in support of our multi-year profit improvement plan. While we continue to make progress in this area, I am still not satisfied with the pace of change. We have a long way to go before we realize all the tangible benefits we expect from our ERP deployment. We will continue to focus significant resources in this space because it is imperative to have the internal systems and infrastructure to effectively manage our global businesses for the long-term.

Now, let's review the progress we made in the business segments during the first quarter. Within the financial self-service business we saw growth in all our geographic regions as the market is healthy, and we're able to close some business earlier than anticipated. While this will negatively affect our second quarter revenue growth in this business, we're expecting a strong second half of the year. We anticipate momentum for deposit automation will build steadily with measured deployment occurring through the rest of the year.

In the Americas we have a difficult year to year comparison due to a large nonrecurring order with a single customer in Canada which was skewed to the front half of 2006. However, we have seen increased order activity in the regional bank space, and we continue to experience growing demand for deposit automation solutions in the major accounts for installation later this year. Asia-Pacific continues to be driven by business in China which tends to be product centric and lumpy in nature. While we were able to complete some deals earlier than expected in the region, we did experience order delays which will push revenue to the second half of the year. Despite these shifts our expectations for the full year in Asia Pacific have not changed.

In EMEA we experienced solid growth despite very difficult comparisons to the prior year. This was led by Eastern Europe where demand remained very strong. We still have room for improvement in the service margin area, but overall I am very pleased with the progress that James Chen and his team have been making in the region. In January we announced a new organizational structure in EMEA which focuses on serving customers regionally as opposed to country by country. This better aligns our people and other sales and service resources across the region. This change in direction gives me confidence that we will see tangible improvement in EMEA's service margin this year.

In the security space results were essentially flat due in part to reduced activity associated with new branch construction in the U.S. The bank branch business and security generally represents big projects that can greatly impact the quarter. However, we have a solid backlog of orders in national accounts and the government market which positions us well for the remainder of the year. We're also seeing solid investment in security products such as cameras, access control, digital video, and the like. These wins help us secure long-term recurring revenue in service.

At our May investment conference we will be providing a dedicated session on our security business. During this session Dennis Moriarty and his team will outline each segment of the business and provide some detail on each of the markets that we serve in that space. Our intent is to give you a thorough understanding of what currently constitutes our efforts in the security business and provide some visibility as to what you can expect moving forward. We experienced a significant drop in the elections systems and Brazilian lottery due to the cyclical nature of these businesses. This also affected our profitability during the quarter as thee businesses carry very high margins.

As I have previously communicated we have continued to evaluate the U.S. elections systems business and suitability in our long-term strategic directions. While I had hoped to be able to communicate a clear strategy related to that business today, I am not in a position to do so at this time. We're still in the process of that evaluation, and we'll require more time before communicating a definitive strategy. We will do our best to ensure that any course of action we take will be in the best interests of our customers, employees, and shareholders. During my tenure as CEO we have been dealing with a long list of critical operational issues, and we've made progress on all those fronts.

In closing while we anticipate the second quarter will be challenging, I believe our renewed focus on the customer and the operational improvements we have made position us well for the second half of the year. We continue the hard work of transforming our company and improving our business. We continue to drive and capture opportunities in our markets around the world, and most importantly we're focused on satisfying our customers. I remain encouraged with where we are relative to our three-year recovery plan, and I am confident we have the right team focused on the right priorities to successfully execute against our long-term strategies. Now I will turn it over to Kevin.

Thanks, Tom, and good morning, everyone. During the quarter we reported a net loss of $5.9 million or $0.09 per share compared to net income of $12.7 million or $0.18 per share in the first quarter of 2006. Included in our first quarter results were restructuring charges of $21.4 million or $0.32 per share related to the closure of our manufacturing facility in Cassis, France. Excluding these restructuring charges diluted earnings per share would have been $0.23. Also included in the first quarter results was the recovery of $5 million or $0.05 per share from the collection of election system receivables which had previously been reserved for.

It is important to note that the first quarter restructuring charges were recorded with no associated tax benefit. Within the context of FASB interpretation number 48 the Company is at this time uncertain it will ultimately be able to recognize a tax benefit on these charges. As a result the Company recorded taxes of $5.7 million on a pre-tax loss of $0.2 million. As the restructuring is concluded, the Company will pursue its ability to ultimately realize the tax benefits of these charges.

Turning next to orders, on a constant currency basis financial self-service orders declined in the low single digits. This decline was due to a large nonrecurring order with a single customer in Canada in the first quarter of 2006. Outside of Canada financial self-service orders in the Americas were up in the high single digits driven by increased activity in the regional bank space and the growing demand for deposit automation solutions in the United States. Asia Pacific's financial self-service orders declined in the low double-digit range as several large orders in China were delayed to the second and third quarters. Security orders increased in the low single digit range. Total revenue for the quarter was $628.4 million up 0.8% from the first quarter of 2006 but down 1% on a constant currency basis. The quarter over quarter comparison was adversely affected by the significant reduction in election systems revenue as well as no recurring Brazilian lottery revenue in the first quarter of 2007.

Financial self-service revenue was up 11.5% with 2.5 points coming from strengthening in foreign currencies. The increase in financial self-service revenue was led by strong growth in Asia Pacific, the Americas, and EMEA. The growth in Asia Pacific benefited from some business that was closed sooner than originally anticipated. Security revenue was down 0.9% on a constant currency basis due in part to reduced activity associated with new branch construction in the U.S. In addition, security revenue faced a difficult comparison to the first quarter of 2006 which included a large order with a single customer in the retail space. Product gross margin was 18.6% for the quarter compared with 28.8% in the prior year period. Excluding restructuring charges of $21.4 million in the first quarter of 2007, and $0.7 million in the first quarter of 2006, product gross margins would have been 26.2% compared to 29.1% in the prior year period.

The nonrecurring revenue from the high margin Brazilian lottery business and a gross margin loss on significantly reduced revenue in the election systems business accounted for all of the drop in total product gross margin. Service gross margin was 19.6% compared with 18.3% in the first quarter of 2006. This year-over-year improvement in service margins was driven by improved product quality and related productivity gains primarily within the U.S. market, offset slightly by reduced margins in EMEA.

Operating expense as a percent of revenue improved moving from 19.5% in the first quarter 2006 to 18.9% in the first quarter 2007. This improvement in operating expenses as a percent of revenues was due to a $5 million reduction in the reserve for bad debts. This reduction is related to the collection of the previously reserved for election receivables from a county in California. Excluding the $5 million adjustment, operating expenses as a percent of revenue would have been 19.7%. It is important to note that since 2005 we have collected $23 million of the original $32 million past due election system receivable from two counties in California. We will continue to pursue collection of the remaining $9 million balance.

Turning to free cash flow, in the quarter it decreased by $59 million moving from $42.5 million of free cash flow in the first quarter of 2006 to a free cash use of $16.5 million in the first quarter of 2007. The decrease in free cash flow was primarily due to lower earnings and less cash provided by certain other assets and liabilities. The decrease in cash provided by certain other assets and liabilities was primarily driven by less cash from deferred income and higher income tax payments.

I was pleased with our continued improvement in days sales outstanding or DSO. DSO improved by eight days moving from 86 days at March 31, 2006, to 78 days at March 31, 2007. In addition, inventory turns improved very slightly moving from 4.6 turns at March 31, 2006, to 4.7 turns at March 31, 2007. Because of an accounting change made at the end of 2006, related to floatable spares our calculation of inventory turns has also been affected. Floatable spares have been reclassified from fixed assets to inventory which has resulted in lower inventory turns for both quarters. Net debt at March 31, 2007, was $392.7 million compared with $287.5 million at March 31, 2006. The increase in our net debt over the past year was due to free cash flow of $147.2 million being more than offset by share repurchases of $96.1 million, dividend payments of $58.1 million, $53.1 million invested in acquisitions and a $45.1 million increase in other assets. Our net debt to capital ratio was 26% at March 31, 2007, compared with 20% at March 31, 2006.

In February 2007 the Company's Board of Directors authorized the repurchase of an additional 2 million shares bringing our total repurchase authorization to 2.9 million shares. No shares however were repurchased by the Company in the first quarter due to a self imposed blackout until the election system strategy is communicated. Moving to our 2007 full year outlook we continue to expect total revenue growth of 3 to 5%. Financial self-service revenue is now expected to grow between 3 and 5%, and security revenue is now expected to grow between 7 to 10%. Elections systems revenue expectations remain in the range of 185 to $215 million, and Brazilian lottery revenue is now expected to be approximately 8 to $10 million.

We are now expecting GAAP EPS for 2007 in the range of $1.87 to $2 per share. Our full year restructuring charges are now anticipated to be $0.25 to $0.28 per share and relate solely to the closure of the production facility in Cassis. Excluding these restructuring charges, EPS expectations for the full year remain in the range of $2.15 to $2.25 per share. Our free cash flow expectations remain in the range of 150 to $165 million and include approximately 18 to $22 million in anticipated cash payments associated with the Cassis restructuring. In closing, the Company remains focused on executing against our multi-year improvement goals, and as evidenced with the closure of Cassis, we will apply the same resolve as we continue to work toward improving the long-term health of the Company. With that, I will turn the call back over to John.

Thanks, Kevin. We will open it up for our first question.

(OPERATOR INSTRUCTIONS) We'll take our first question from Reik Read at Robert Baird & Co.

With respect to the service margins, they were down sequentially maybe a little bit more than we would have thought, and I say that because you had talked last quarter about really starting to get some good traction there. You thought the international markets would provide some opportunity. Can you talk a little bit about what's happening there? Is it a disappointment to you and what are some of the things that you still need to do to get that margin up to where you want it to be?

Reik, like I say, there is obviously for us a seasonality aspect to this as we look from Q1 through Q2, 3, and 4. And as you saw in 2006 we were able to sequentially improve every quarter, and what we had hoped to do and expect to do this year is to continue in a step ladder fashion going forward, so we felt that the improvement that we saw with the 19.6% first quarter service margin was a good starting point, and as we talked about in our comments, we had productivity gains in the -- especially in the U.S. market area that helped us in that event, so I think we're poised to continue that improvement sequentially quarter over quarter and our expectations for the full year are to get somewhere around 22% for the year which would compare to roughly 20% in 2006, so we think that would be very good improvement and would be on track with what our expectations are.

Reik, this is Tom. Let me add a couple things. First of all, we had communicated probably early on in my tenure as CEO that we thought we could get to the point of 22% margin relative to the service business, and we think that we are making very good progress toward that, and as Kevin indicated, we think even as soon as this year we may get pretty close to that. I think our target is certainly to be between 21 and 22 this year with a goal of being over 22 next year.

The second thing I want to point out is in my comments I indicated we have made some structural changes in Europe, so I think where I see some continued improvement is we've seen some good gains in other regions of the world. Europe is still by far for us lowest relative to service margins, but in putting James Chen in place we've evaluated that structure, we made some significant changes, and now we're looking at that from a regional standpoint versus country by country which allows us to really utilize resources more intelligently, allows us to take some costs out where it is appropriate, and I think we're going to see the benefit of improved margins in EMEA throughout the remainder of this year. We have got a lot of focus on this space. Since service is such a big recurring revenue stream, we think that's a big indicator in terms of long-term getting the Company healthy, and we think we're on a very good track in that regard on the service front.

Have those changes already been made in Europe or is that still ongoing, and should we see a gradual improvement or will there be a step function as those changes are implemented?

You will see a gradual improvement. What we did in -- I was over there in January and February. We announced to the organization the changes, so as you might imagine, the first quarter you're just getting people aligned and making the -- just beginning the process, so you will see gradual improvement relative to the EMEA service margins, and I think we're going to see that throughout the remainder of this year.

Okay. Then if I could just ask one question on the elections business. Can you talk a little bit about the factors contributing to the lumpiness in elections that you see out there and then also comment, if you ex out the lumpiness, you look at it maybe on a trailing twelve-month basis can you talk about where the margins are in that business relative to a year ago, i.e. the improvement, and how close they might be to what your target range is?

Let me first start in terms of the lumpiness of the business. Generally speaking, the product decisions that are made there are very cyclical in nature depending upon the elections, so with major elections like that were occurring in 2006 in terms of mid-term elections, most of those decisions in terms of product were made early in the year, so last year the first couple of quarters of the year had a lot of activity in them. This year since the -- there is not the major elections that's in 2008, most of these decisions in buying patterns will be happening in the second and third quarter with revenue really in the third and fourth, So as such you get a big product centric kind of decision there. You do have some recurring revenue streams here from little municipal elections and things that are run, but it is a very small piece of the overall business. I think again we pointed out that we're looking to have a strong year at the $180 million to the $215 million range, so it is a very strong year, but again it is back end loaded this year. The second question had to do with --?

The margins.

The only thing I would add to that is I think when we looked at 2006, we disclosed in our fourth quarter earnings release gross margins for that business, and if I recall they were in the mid-to high 30% range. Our expectations going forward is that it is not going to be quite that high at a gross margin level but of course we'll have more sales dollars to apply against that. I wouldn't expect -- I think we have some unique projects within that space that allowed to us get a little higher margin and our expectations going forward are for lower margins in that space.

But still pretty solid. Very solid margins for us and very viable.

Would you see those, as you go through this year with this revenue ramp assuming the mix doesn't change all that much, are those margins that will continue to improve really more on the operating side?

Well, as you know, obviously in the first quarter it was negative, so, yes, they will be improving as we go into Q2, 3, and 4. I don't have the quarters in front of me like that, but I know that there is lumpiness to it, so I think that most of when I talk about election systems more of that is in the back end of the year rather than the front end.

I would say that the -- certainly as Kevin is pointing out, I think at the gross margin level while we see they might come down a little bit, I think we're going to see continued improvement in terms of the operating margins there because we've got leverage and we're getting much more efficient, so I think you saw evidence of significant improvement '05 to '06. I would expect that we're able to maintain pretty close to what you saw in that disclosure in '07.

Great. Thanks a lot.

You're welcome.

We'll take our next question from Matt Summerville at Keybanc.

Good morning. Several questions. First just on security. What's your comfort, Tom, that revenue -- revised revenue forecasts, 7 to 10% is still -- it is achievable, I guess? If you look at what you did in the first quarter, you really, it doesn't appear and this is kind of back of the envelope that you really changed your forecast for the remainder and with new branch construction I think possibly slowing a bit, can you just kind of walk through, I guess why you think the revenue outlook isn't lower than what you're guiding to?

Sure. First of all, the one piece that's really important to understand is we speak a lot relative to financial, but I want to make sure that we're clear, and the reason we're taking some time in the analyst meeting to go through the segment is the government, retail, and commercial businesses tend to be more oriented towards large big projects, and in the government space, for instance, our backlog of orders looks pretty strong. The proposals out there are strong, and some of these are significant opportunities, some of which we think could slide into next year which is why you see a 7 to 10%, but in essence we're pretty confident in terms of the underlying aspects of security remain the same. Our position in this space remains very healthy. We've seen a slight shift from physical security to electronic and electric security relative to the financial industry, and when you look at the electronic security pieces of that, that is not as wed to the new branch as the physical security. SO you see a lot of renovation going on in the electronic securities side.

Physical security is really impacted by branch activity and major redesign and new growth, and so it has been a little bit of movement more towards electronic, but overall as we've reviewed this business and had folks in, the retail and government and high-end commercial tend to be big project, big integration projects, they take a little more time, and we're also seeing that the -- on the banking side that the activity there is strong, it just is taking longer for it to come to fruition. We feel pretty good in terms of that 7 to 10% range being very achievable and within our sights given the forecast and the reviews we've been through internally.

Okay. Then just real quick, I don't want to spend much time on Brazilian lottery. What do you think the revenue is for that business this year?

I think it is 8 to $10 million this year, 2007.

Should that be level loaded across the quarters or is that going to hit in one particular quarter?

It is more towards the back end, Q3 and Q4.

Okay. On the ATM business I guess the strength you're seeing around deposit automation, is that fairly well balanced across a number of big national banks as well as regionals and credit unions or is this right now at least the activity you're seeing sort of relegated to a couple of big financial institutions? And I guess as we move throughout the year how do you expect momentum to build?

The way I would view this right now is on the front end of this you have got a couple major drivers of deposit automation. The activity level in terms of -- I would view revenue a little differently than orders here from the standpoint that revenue at this point is really being driven by major players that continue to roll out on a major scale, and while we have some of the smaller players getting involved, they really have not anywhere near come anywhere close to what the major players are doing. However, the activity level in terms of the people that want to talk about it and they are talking about placing orders, we're seeing a lot healthier conversations at the regional bank market. Again, these are longer implementations, but that's why the second half of the year is where we're pointing to relative to a lot of the deposit automation that becomes much more regional bank oriented. So again, I was encouraged with our internal reviews as we went through deposit automation specifically and taking a look at the kinds of improvements we're making as well as the healthiness of the market and feel we're really well positioned as this thing starts taking hold, and again we see the second half of the year third and fourth quarter on the deposit automation front continue to grow.

When you look at I guess implementation plans with some of the larger banks with the big installed bases of machines, what sort of penetration rates are they talking about? If one of these big banks has 10,000 machines how many are they saying over whatever multi-year period do they feel will be outfitted with check imaging modules and/or bunch node acceptors?

I would say that it certainly differs depending upon the institution. I would say at this point that number is probably close to 50% range, kind of the onslaught of these plans, and then as -- I think that my expectation would be that as this gets -- technology is proven and the consumer gets comfortable with it, that again I would see that we possibly could go beyond that, but you think about it on the front end, if you have two or three ATMs at a specific location, you don't need every one to have all the functionality. You may have just one cash dispenser or two cash dispensers and one deposit automation terminal or two deposit automation and one cash dispenser, so it is certainly not a level where I would ever think that realistically it's 100% but certainly 50% and a little north of that is very reasonable.

Those are the rates banks are talking to you guys about right now, that 50% because I would bet that's probably more healthy than one might imagine?

Well, I think that again we're learning a lot through the front end of these deployments as each deployment goes on, the bank has a lot to do from an operational standpoint. We have a lot to do from the integration overall standpoint and integrating software, integrating the operations at consumer interface and the learning that goes on there, but once the machine is installed and the consumer has comfort, four, six months into this, volumes look healthy, interaction is good, the module's performance is much better, the monitoring that surrounds it is much better. It just takes much longer than an ATM that you plug in and you're used to all the statuses. You get different statuses, you have different operations associated with it, so the learning curve is a little bit longer, but again, as we go through each of these we are getting educated as is the deployer, and I think they're seeing what they want to see here. Again, I look at this as it is part of -- depending on the overall bank strategy in terms of what they're doing from an automation standpoint, certain banks have the whole infrastructure already built out, and so they're looking to move as many transactions as they can onto their self-service platform to drive down the overall delivery costs, and in that scenario deposit automation plays a critical role there. I think that bodes very well for us and for the industry.

Again, I think you're going to see that as this begins to take hold, you get some of the competitive environment out there that two years down the road if someone across the street has something that appears to be pretty successful, I think we'll see continued adoption of this. Right now I am encouraged with the kinds of conversations we're having and with the kinds of commitments we're seeing from the banks in the U.S.

In terms of pricing in North America, are you still seeing pretty -- things pretty stable?

Yes, I would say overall in the U.S. pricing continues to be pretty stable, and again I think from my standpoint we are taking a pretty hard stand relative to pricing in various scenarios plus with the tools we've begun to develop on the pricing front we can be surgical so that we can do things in a very surgical manner versus on a broad scale manner which we did in the past, and I think that allows us to be able to do one or two things strategically without really impacting the overall operations, so I am expecting that on the product margin side that we're going to continue to work hard in that regard. Some of those are impacted by significant deals that hit you in one quarter or the other, but when I look at the underlying discipline, the principles there, I am more encouraged with where we are today than I am 12 months ago.

Two real quick final questions. The European implementation, year-to-date spending in line above or below kind of what you were thinking, and then Kevin, can you comment on how you view -- how you would view your buyback -- your level of buyback activity once you make the selection decision?

Do you want to talk about (inaudible)?

The ERP frankly is pretty much in line with our expectations. If you remember, we took that over towards the end of the second quarter of last year, so we obviously face an incremental spend quarter over quarter. But those are pretty much in line and going as expected.

Relative to the second question about share repurchase, a couple things, I guess. Once we are in a position that we are able to repurchase again, we again want to be opportunistic in our purchasing. We obviously were buying somewhere around a million shares in excess of that a quarter when we were trading at a much weaker point. My expectation would be once we're able to buy again we would be opportunistic. I don't think we would be at the range of a million shares a quarter, but we would continue to buy and support the stock and certainly would deal with any types of issues relative to shares -- the outstanding shares. We would want to take care of that cost.

Okay. Thank you.

Sure.

We'll take our next question from John Healy at FTN Midwest.

Good morning, guys.

Good morning.

Bigger picture question on the financial self-service business. Obviously you saw strong performance this quarter and raising your outlook there. I was just hoping to get your rationale on what you're seeing in the market. Is the market just healthier than you guys thought two or three months ago or do you think you're taking share from your competitors and if so, are there any markets that you feel that maybe you're taking some share in?

John, the way I view this is in terms of the conversation about taking share, one of the things that we've tried to do over the last eighteen months is really stamp out internally the feel like getting revenue for the sake of revenue or getting share for the sake of share is what we're about, what we're really focused on is making sure that we're very focused in terms of the profitability of these deals. I feel good about again the mechanisms, the tools, and the training that we're doing surrounding that. Having said that, I think where I think we're a little surprised is the strength in Eastern Europe to the level that we've seen. We also had some strength in the Middle East which was surpassing our expectations there.

In terms of the Asia region, I think it is right where we want it to be for the year. You've got major players in China that drive the whole Asia Pacific region, but the conversations there lead us to believe that while quarter to quarter you may push an order back here or something sizable, we feel we're in very good shape there. Certainly in the European market we feel like we've made some significant progress in the last eighteen months, and there is a lot more for us to do specifically on the margin front. I think you can see we've really done a nice job in terms of positioning ourselves with the new product platform and the right level of software in that region, and we're focused relative to the European market in terms of the software requirements and professional services with very customized installation. I feel good about what we're doing there, and we still have a long way to go in Europe, but Eastern Europe we're well positioned in.

When I look at the Americas, we've had a very commanding position in most of the markets within the Americas. I feel like we're in good shape there. Our goal there is to change the game over the next several years so it is no longer just a product and service kind of market but there is other aspects of the market like we've done in Brazil that really differentiate yourself and put you in a different position than just fighting for hardware.

So overall I would say that the market is a little healthier simply because Eastern Europe and the Middle East surprised us more, and I think the other parts of the market are in reasonably good shape, and we were very happy that North America really has picked up. We went into the year knowing we had a big hole in Canada, 250 to $260 million we were going to have to make up in the U.S., and we're seeing evidence of that, so that was the biggest issue coming into the year, say we think that's where it is going, we have got plans in place, we're hearing the right things, and I think in the first quarter it is providing evidence that that in fact is taking place. That's kind of a quick tour around the world on self-service.

If we can stop back in China, I have a question there.

Okay.

The growth you're seeing there, was hoping to get your longer term outlook for that market and why I am asking that is, was hoping to get your opinion that the growth we've seen last year and that we're seeing right now, do you think that's just a buildup of the Olympics taking place there or do you think that China is a growth market for the foreseeable future?

China will be a huge growth market for the foreseeable future. My take on this is it has to do with the fundamentals of China itself. As China is continuing to grow and whatever number you want to pick in terms of population, it is a big number, it is well over a billion. Well, you recognize that so few of those, it is several hundred million that are banked. They're middle class. They will be moving into a middle class and the banks will be banking many, many more people in the future than they do today. That gives me a sense that even if it is an additional 2, 3, 400 million people that move into this bankable kind of market, there is a large transition that's going to take place in that market I think over the next five to ten years. I see this as a very viable market.

My biggest issue relative to improving our position in China doesn't have to do with anything on the hardware side, it is that they don't value service to the same extent other regions of the world do like the United States, for instance. Their view of service today is you can outsource it to a third party and have 85% availability, and that's acceptable. Well, I think that over the long-term that viewpoint will change and it will change as a result of them looking at this much more on a global basis and the need to have the reliability that other parts of the world fight over. In the United States if you're not at 98.9 or 99.3, it is the end of the world. Over there you're talking about 10 or 12 percentage points difference in terms of availability, so it is an education and awareness that I think on the services side is really going to be the focus for us there, but I think in terms of product we're well positioned, and I think this is not a short-term blip here for a couple years. This is a long-term movement that will continue to occur.

Great. One last question on election. I know you guys are trying to finalize your strategy there. I was just hoping to get any thoughts if we should expect an announcement of the strategy in Q2 or is that something that we should expect later in 2007?

My take on it, John, is we have got a good team of folks working on this. We've done a lot of work to this point. I am just not satisfied we're where we need to be. I will commit to everyone to communicate it as soon as we're in a position to do so, and I can't really give you any framework in terms of guidance in terms of timing, but I can assure you this, that much like we put the same rigor and discipline into getting that Cassis facility finally to the point of getting out of there, we want to make sure that as we get to the point on the election business of being in a position to communicate something that we've got all our I's dotted and T's crossed and we have got a comprehensive communication because it affects customers. It affects shareholders. It affects associates, and we need to be buttoned up in that regard.

Okay. Fair enough. Thanks, guys.

We'll take our next question from Gil Luria at Wedbush Mortgage Securities.

Wedbush Morgan Securities. Thank you for taking my question. First on the -- in the ATM business, how much of the ramp-up in the second half is going to be due to an introduction of multiple check acceptance for your deposit automation or is that something that's only going to contribute to revenue in '08 and beyond?

That's really only '08 and beyond. At this point that piece or that module in componentry would be a very pilot type of stage, and people would just be putting that in their labs and starting to work with it, so that really has nothing to do with truly any significant revenue in 2007.

In terms of Cassis, now that Cassis is closed and you finalized all the arrangements with all the Unions and you're also ramping up in Hungary, can you talk about now what are the actual savings rates for labor per ATM, how much of a difference that makes in that transition?

We had talked about the ability to get somewhere around $2 million a quarter in improved earnings as a result of that transition. I think as we look at it now, it is probably a little bit more than that, but it is still in that general area of about in excess of 2 million a quarter benefit as we pull that production on, and that we obviously as we constructed our guidance and our expectations back in the fourth quarter we talked about hoping to have this done by the end of the first quarter so we could see those start to run into our P&L in Q2, 3, and 4, and fortunately that's kind of how it's booked out.

Certainly the other thing that I would mention around that is as we've got this Hungary facility up and running, we have spent a lot of calories in having folks from the U.S., for instance, in there in that facility, so we're not where we want to be from my perspective in terms of as efficient as we're going to get in Hungary. We still have too many folks that are there assisting. The training isn't complete. We're still making sure Oracle works the way it does. We have a lot of extra expense right now in Hungary. I would expect in next year we're going to have much more favorable comparisons there, but to Kevin's point our expectation is in the third and fourth quarter, we've got $2 million in savings that are real as a result of closing the Cassis facility, and our per rate on an hourly basis and the like is going to be much more comparable to a Shanghai facility going forward and long-term.

And last question, when you started your prepared remarks you talked about an investment in software. Could you be a little more specific about what type of software and what kind of things we should expect and a little bit of a time line for those kinds of introductions?

I would say in this case that in the second quarter we will have a series of announcements that come out that will I think shed some light on this, and I think when we have the analyst meeting in May here in Canton or in Akron, we'll be able to take you into a little more depth relative to that, but in essence one of the areas that was very apparent to me over the last several years and certainly being in a position as CEO that on a software front having grown up in North America as a company we're North American centric relative to the software, and that software environment really needs the appropriate architecture, so we were doing certain things within other markets that cost us too long in terms of certification and to get into place, to be able to be running on the networks and in the ATM environment, and we're going to make ourselves much more flexible and again I would say on the course of the second quarter and when you come in for the analyst meeting I think you will walk out with a much better appreciation for some of the specific things we're doing there. Really within a month or two you're going to understand a whole lot more.

Great. Thank you very much.

You're welcome.

We'll take our next question from Yvonne Varano at Jefferies.

Thanks. First, can you break out the other expense by the line items?

Other income, other expense below the line?

Yes.

Sure. It is investment income and interest expense that are in there as well as FX, minority interest, and other.

Can you give the numbers?

Well, if you look at the delta and the change, the major driver of the reduction has been favorable FX, so I think if you look at it, we're going from about roughly 4 million down to 1.3 million, almost all of that is coming from favorable FX benefit. Our net interest income and expense, for example, is flat on a quarter over quarter.

Can you just give the numbers for--?

Okay. Sure.

Investment income, interest expense?

Net interest income and expense in 2007 is minus 3.8 million, and in 2006 it was minus 3.7 million, and FX was favorable by 3.6 million, and it was favorable by 400,000 in the previous quarter. Minority interest is a negative of 800,000 compared with 1 million in 2006 and finally there is all others which is roughly a negative 300,000 in 2007 and a positive 300,000 in 2006.

Terrific. And then on your inventories in the quarter, can you give us how much on a dollar basis was due to the accounting change on spares?

Roughly about $55 million, comes out to be maybe 7/10 of a turn.

Okay. In terms of Brazil on the lottery side, what happened there to change your revenue expectations?

Well, I think one of the things is that we've -- when we did that last year, it was a back ended issue, and as we went down there and visited, in the first quarter we found that a lot of the deployments, some of it are getting pushed out from -- to later in the year and then from later in the year into next year, so part of that action was simply some of the actual installations and deployments being moved out.

Okay. And on the elections business, I know you talked about the gross margins being in the 30% range. You said the operating margin should be better. Should we assume that that would be in the mid to high single digits on an operating margin basis?

Yes. I would say high single digits, low double-digit kind of thing, yes.

Okay. And then can you just give us an update on where you are in achieving the 35 million in cost savings that we have laid out for this year?

Sure. This is Tom. Again, as we've outlined before, we have what we believe is a pretty rigorous program in place. I think we are absolutely right on track with where we want to be. We've got -- as I indicated we have got weekly meetings and a lot more detailed meetings, but we break it down in direct and indirect, and I can tell you this much -- direct is twice the amount of indirect this year in terms of achieving that, and we have got a whole list of active projects, and when the active projects are in that savings going to be realized, and then we have got future projects, so it is a combination of all of those pieces, but I feel good in terms of the visibility we have. I feel good in terms of the management of it. I feel good in terms of the projects that are real that we're working on. You never actually know the exact savings until it comes through, and we see the invoice and match them all back up, but in essence I feel very confident in that 35 million.

Okay. And then, Tom, I know you talked about pricing in the Americas. Can you just give us an idea of what the pricing trends have been outside of the Americas by region?

Yes. I would say in Asia, I would say there is a couple areas that the pricing continues to be very, very, very competitive. China, for instance, I was mentioning, I think, on the last call, but we're seeing local players in the market, and I think the banks from a strategic sourcing standpoint are using those relative to ourselves and the other major players regarding pricing, and as I mentioned, China tends to be a product centric environment. We're working hard on that front, but we see pricing pressures in a significant manner within China. China is still a very good healthy market for us. But again, we're seeing some serious pressures there. India has been just -- continues to be a very -- probably the most difficult market in the world relative to a pricing environment. You may have seen that we won 2800 units in terms of managed services and I'm much more comfortable on that front than I am necessarily selling hardware and losing money every step along the way, but on the managed services front we think we have got a good infrastructure there, and we're going to monitor an additional 2800 units I think with what we listed there.

Western Europe because of the mature nature of the environment certain countries there tend to be -- Italy tends to be a very price competitive market, and again you've got lots of different countries within each of those regions that you can go through, but overall again, I think part of this, the biggest factors are strategic sourcing, guys playing a large role every time you have conversations and, two, it's the discipline. It is the ability to say we're not -- this is where we think the value proposition is and that's where we're working toward, and at a certain point you say we're not going to participate and so we've done that. So I think that is the appropriate approach and the appropriate discipline, and if I look to Latin America, I would say that again it is almost a country by country kind of analysis, but in essence the big countries there, Mexico, for instance, that's a competitive market, but I think we feel very good in terms of our position and our value proposition.

So would you classify your prices as being down slightly in most of those regions where we've talked about pressure in the 0 to 5%?

I would say in the China, India markets, prices are down. In a Mexico, for instance, we've been able to stabilize and hold our prices. I would say overall I am more pleased with the stabilization and pricing at this point, but certainly when you've got a big deal in China pricing is just a significant issue. You almost have to look at it within each deal on how those transform. I would say overall there is more pricing pressure in China than we've seen in any other year, and in India it continues.

Okay. And in China are you making any progress on the service side there?

Yes. We are. Not nearly to the extent that I would like. For instance, one of the big banks there basically told all the major players from around the world that you can't do any of your own service, so that's not a good sign, so it affects us. It affects everyone the same way. That's why I call -- China is a good market for us, but it is very product centric, and we need to change that. We have got some things in place that we're working on hard there, but the banks have to value the services aspect of it, and I am not seeing that yet. Thus for awhile I would say the next several years it will continue to be a product centric kind of market, and at which we would love to change into a Brazil kind of model where you're really talking in terms of services and outsourcing and some of those aspects where we think we've got some real competencies, but that's going to be a longer haul in China. So I think short-term we have to be competitive. We have to keep our position there, and we are in fact gaining units under contract from a service standpoint, but it is not nearly the ratios we would see in the United States or Europe.

Okay. But there is a small amount of service.

Oh, yes, oh, yes. My goal is 50/50, and we're way off of that in China in particular.

Sure. Terrific. Thanks very much.

You're welcome.

Due to time constraints we will take one more question today. Our last question comes from L.N. Ganti, with Thomas Weisel.

Hi, everybody. Looks like your ATM sales have surprised everybody, and if you ex out Canadian comparison, you expect the second quarter to be tough, but I wanted to know why you think so because the orders were pretty strong in the first quarter, looks like. Am I missing something there?

Well, first, the real impact of the Canada comparison comes to us in the second quarter. Q1 over Q1 Canada wasn't too dramatic a difference, but in Q2, 3, and 4 it becomes very significant, and so that's going to hurt our comparison right away. Then the second reason is China, and in fact that we think we took some of the revenue that frankly was in the forecast and expected to occur in Q2 was actually able to be closed and installed earlier, so it happened in Q1, and then some of the orders that we talked about that we expected to come earlier have deferred off, so we see those two dynamics are going to affect Q2 fairly significantly for us.

Okay. And the Chinese orders are necessarily not cancellations, right, they are just getting postponed. Is that--?

Those end up being timing issues. We still feel very confident with kind of where we're at with China for the whole year. It is just when you get into which quarter some of these things are going to land, we have had a number of folks saying that the orders won't be taken until the latter half of the second quarter, beginning of the third, and when we went into the year we thought those would be moved up two or three months so we would see some of the revenue in Q2, and now it doesn't look like that's possible.

Okay. Thanks a lot.

You're welcome.

We have no more questions at this time. I would like to turn it back over to our presenters for any additional or closing remarks.

Thanks. Thank you, everyone, for joining us today. Before we go, I would like to quickly remind everyone of our upcoming investment community conference Tom mentioned a couple times today. It will again be on May 16, and 17, here in Canton, and if you would like further information on the conference or if you have any follow-up questions as always please contact me directly. Thank you.

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