藝康 (ECL) 2015 Q2 法說會逐字稿

Thank you all for standing by, and welcome to the Ecolab second-quarter 2015 earnings release conference call. At this time, all participants are in listen-only mode. After the presentation, we will conduct a question-and-answer session. (Operator Instructions)

Now I would like to turn the call over to Mr. Michael Monahan, Senior Vice President External Relations.

Thank you. Hello, everyone, and welcome to Ecolab's second-quarter conference call. With me today is Doug Baker, Ecolab's Chairman and CEO.

As you may have seen, we are using a different format this quarter, in which we have posted a discussion of our operating results, and we will present only abbreviated highlights on this call. In the posted discussion, along with our earnings release and the slides referencing the quarter's results and our outlook, are available on Ecolab's website at ecolab.com/investor. Please take a moment to read the cautionary statements on these materials, stating that this teleconference, the discussion and the slides include estimates of future performance. These are forward-looking statements, and actual results could differ materially from those projected. Factors that could cause actual results to differ are described in the section of the most recent Form 10-K under Item 1A: Risk Factors and in our posted materials. We also refer you to the supplemental diluted earnings per share information in the release.

Starting with a brief overview of the quarter, strong new account gains and new product introductions drove good mid-single-digit fixed currency sales growth in our Global Institutional, Industrial and Other segments during the second quarter to more than offset lower Global Energy sales. We leverage that growth, along with delivered product cost savings, decreased variable compensation and our ongoing synergy and cost efficiency work, as well as pricing, to more than offset substantial currency and pension headwinds and increase our adjusted operating margins. These, along with lower tax rates and fewer shares outstanding, drove a solid adjusted earnings per share increase.

Looking ahead, we expect 2015 to be another year of superior growth, despite mixed macroeconomic and market trends, as well as substantially and favorable currency exchange and pension costs. We are seeing good sales growth in our Global Institutional, Industrial and Other segments, primarily a result of internal work we have undertaken to further improve our effectiveness. Lower oil prices have yielded lower delivered product costs, while also negatively impacting our Global Energy segment. Net, we continue to look for a very strong profit growth in the midteens area before currency and pension effects. We continue to expect currency and pension to represent a combined unfavorable impact of $0.38 per share in 2015, reducing 2015 earnings per share growth by 9 percentage points.

Our 2015 full-year adjusted earnings per share forecast remains centered in a $4.45 to $4.60 per share range, representing 6% to 10% growth as further fixed currency sales growth, appropriate pricing, lower variable compensation, innovation and synergies more than offset 2015's challenges.

And now on to a few highlights from the quarter. Reported second-quarter earnings per share were $1. On an adjusted basis, excluding special gains and charges and discrete tax items from both years, second-quarter 2015 adjusted earnings per share increased 5% to a record $1.08, despite a $0.09 headwind from currencies and pensions. The adjusted earnings per share growth was driven by fixed currency sales gains, delivered product and other costs savings, lower variable compensation, synergies, new products and the lower tax rate and share count.

Our fixed currency acquisition adjusted sales increased 2%. It was led by mid-single-digit growth from our Global Institutional, Industrial and Other segments, which more than offset lower Global Energy sales. Latin America and Middle East/Africa led the regional increase with good growth in Asia-Pacific, while Europe showed continued modest gains. Adjusted fixed currency operating income grew 8%, and we expanded those margins by 80 basis points.

We also continue to make key investments in the drivers for our future growth. We remain on plan to achieve our Nalco and Champion synergy targets, and our Europe margins are on track for further strong expansion again this year.

In addition, we continue to execute on our $1 billion share repurchase and reacquired 3.3 million shares in the second quarter. Looking ahead, Energy markets and some regional economies continue to present challenges, and the headwinds from currency exchange remains formidable. However, we are also realizing raw material cost savings, and it should significantly improve versus the first half, along with synergies and cost efficiencies lead to further margin expansion and yield improved earnings per share gains over the balance of 2015.

In this mixed environment, we are driving new business gains and lower costs as we maximize the benefits and minimize the challenges in 2015. We will once again use our product innovation and service strengths to help customers achieve better results and lower operating costs and, through these, drive new account gains across all of our segments. We expect the third-quarter 2015 results to show further solid fixed currency sales growth and margin improvement from our Global Institutional, Industrial and Other segments as they more than offset lower Energy segment results in a tough comparison for Energy.

Third-quarter adjusted earnings per share are expected to increase 2% to 8% to the $1.24 to $1.31 range as the unfavorable currency and pension impact increases to approximately $0.11 per share in the quarter. Our full-year 2015 forecasts remains centered in the $4.45 to $4.60 per share range, up 6% to 10%.

In summary, we believe our second quarter performed very well, despite very challenging conditions. We continue to expect 2015 to reflect Ecolab's balanced business portfolio and show operating performance for the Company, more than offsetting the challenges in Global Energy and the drag on earnings per share from currencies and pensions. We remain confident in our business, our markets and our people, as well as our capacities to meet our aggressive growth objectives over the coming years, while also delivering attractive returns in 2015.

Now here is Doug Baker with some comments.

Thank you, Mike, and good day, everybody.

So it's going to be a familiar theme. I would say the year continues to progress as we expected and we talked about during the last call. So we really have strong mid-teens underlying EPS performance when you look through FX. It is being driven by strong institutional, industrial and services. We are delivering strong mid-single-digit fixed FX organic sales growth. When you couple that with the raw material savings as a result of the lower oil price, this results in very strong earnings in these segments. This is offsetting much of the weaker Energy service demand impact that we are also simultaneously seeing. So net the story, really the oil is countered, if you will. The Energy demand destruction is counteracted by raw material savings, net not really the main deal, is exactly what's happening in our business.

So FX is the principle optics story this year. It will pass. We don't know when, but ultimately it will. I would say, if you look underneath, importantly, the metrics are very solid for our business. We continue to gain share as we hit another record quarter of new corporate account business gains across the board. We continue to have excellent results from new innovation, both innovation launched last year and this year. We continue to deliver against our savings plans, our synergy plans and our raw material capture targets. Our cash flow was good and improving. And I would also point out that our M&A pipeline looks very good and is quite robust.

So net, the story for the full year remains the same. We expect Institutional, Industrial and Other segments to continue to perform quite well as they continue to drive mid-single-digit fixed currency sales growth, and they continue to have strong margin performance via input cost savings as a consequence of lower oil.

Energy we expect to be off on the top line for the year about 3% to 5% and have a flattish OI result year on year. So our full-year range remains 6% to 10% EPS growth, adjusted EPS growth with about a 7% FX impact forecasted. Sitting today we would expect to be in the middle of our forecasted annual EPS range.

So the underlying assumptions in this forecast are the following. We see the economy and Energy market remaining in their current ranges. We don't expect any dramatic uptick or downtick in either.

We see FX remaining fairly stable, so a big move either way would impact results. We continue to execute in all businesses. It's an ongoing assumption, no matter what year. Our Energy business, we believe, will start improving in Q4. It's really driven by two factors. One, cost savings and synergies will be at their full value for the year in Q4 year on year. So that's a step-up in contribution. And we also expect to have new innovation-driven sales positively impacting Q4 as we have sold a lot of new business recently, and we are quite confident we are going to see the majority of that in Q4.

And finally, I would also point out that our assumptions do not include any impact from unannounced M&A.

So in summary, we feel good about the future. I think we are doing all the things we need to, to continue and drive strong future performance, and we expect to continue and deliver midteens EPS reported results once FX stabilizes. We had a great pipeline, both in innovation and new business. We've got a great market position, and it is improving. Our team is executing extremely well, and we continue to invest. We have record investment in systems and talent and R&D.

And finally, as I previously mentioned, M&A looks quite robust and, we believe, positioned to be a major contributor going forward, as we have talked in the past.

So with that, I'll hand it back to Mike, and then we will move to Q&A in a minute.

Thanks, Doug. A final note before we start Q&A. We plan to hold our 2015 Investor Day in St. Paul on September 10. If you have any questions, please contact our office. Please note we have limited space and that we need your RSVP by August 20.

That concludes our formal remarks. Operator, would you please begin the question and answer period.

(Operator Instructions) Nate Brochmann.

Doug, wanted to talk a little bit in terms of, obviously, the Energy business. It seems that you have a really great handle on where that is at right now, and it feels, based on just what other industry disciplines are saying, that we might be getting to the bottom in the third quarter.

One, just wanted to see if you were feeling that way, and, two, whether there's anything relative to the start of the second quarter in terms of managing the business any differently in terms of accelerating any additional cost saving plans beyond just the synergies that were remaining or that are still left in the pipeline from the deal and then just how you're thinking about that going forward?

Yes, so I would say -- we are all looking, I think, at the same rig count data, and certainly the rig count decline has stabilized, and I think it is predicted to remain at this level for a while. And so that's our assumption. We don't have forecasted any dramatic increase in rig count going forward, and we believe that oil is going to stay in this range, plus-minus $5, through 2016. And I would also say that's not really a change in our view, either, as we go on.

So we see the Q3 versus Q2 quite similar. Q3 will be very modestly higher than Q2, but it's very modest. And really, when we see any kind of uptick is Q4 and as I mentioned in my earlier remarks, it's really driven by two factors. One, certainly some innovation-driven sales, and, second, cost savings and synergies, which will be at full value in Q4.

Now, some of those savings are absolutely the savings that we had foreseen when we did the Champion deal, and so really not a change. We may have changed timing on it a bit, but exactly the savings that we had foreseen. But we have taken additional steps, no doubt about it, given that the market is considerably different than we had thought it would be just a year ago. And so I would say there are some savings that you would call downturn related. I would also say that the strategy that we've articulated, which is we do not want to get into this big up and down swing cycle in that business. It's not a highly cyclical business at all. I think we are demonstrating that. It was down 5%, so for that first half, it was down a couple points. And as we said for the year, we expect it to be in that range. So this isn't a business that swings wildly, and we don't want to swing our talent wildly either. It doesn't mean that we are taking some steps, but they are pretty modest, particularly when you look at the type of layoff numbers that are broadly being communicated in that industry.

And we think that makes sense for our business and makes sense also for positioning ourselves when, one, the industry stabilizes, like now, and, two, as we ride that and in the future ride up, I think we're in a good decision to capitalize on that.

Okay. it makes sense. And then just in the follow-up, you talked about getting a couple new business wins, which obviously are part of the Ecolab story of the innovation. Were there any really big wins there in the quarter? Obviously, food and beverage seemed to have a very nice quarter. I was wondering if anything flew through there that was a one-time big thing or whether that's just normal blocking and tackling.

Yes. No, I would say it was fairly broad based. I mean there are a number of very good wins. I would say it's in our typical range of what we do. I would say, in total, we are up modestly year on year. And last year, as you recall, we were up 45%. So that's a great accomplishment. And it's also in the face of, frankly, Energy is doing very well on the new business but not quite as well as last year, which you would expect. We don't have the same CapEx deployment. But Energy still is doing very well in generating new business. They are clearly gaining share.

So I think that's really one of the highlights. It's one of the leading indicators I have always paid most attention to in almost all of our businesses, and it's probably the best forecaster for continued organic sales growth strength.

Great. I appreciate that. Thanks, Doug.

David Begleiter, Deutsche Bank.

Doug, just on your full-year guidance, you maintain a pretty wide range of $0.15 for the back half of the year. What would need to happen for that lower end of the full-year guidance to be hit, that $4.45 area?

Well, I would say two things, David. We really left guidance alone because we don't see any real change in our outlook for the year, and we thought the best way to communicate that was not changing our forward guidance.

It is wider than we might normally have at this time of the year, and I would say it's a year that -- it's a world that's still fairly dynamic. Currency swings -- I don't believe they are in the future. But then again, I'm probably a lousy forecaster of currency swings, based on past performance.

So I don't know exactly what to expect. I would say that singularly would be the biggest possible impact on moving off the middle of the range, either up or down, of the FX because it affects you the day it happens. Raw materials were getting late in the year. They are becoming, frankly, less likely to impact the year dramatically simply because they have got to work through inventory on most of the world outside of the US, so it just takes a long time for changes there to flow through and hit the P&L at this point in time.

And then, of course, as I mentioned, we expect an uptick on Energy in the fourth quarter. We think we've got a good handle on that. The majority of it, I think we feel, is quite secure. But that could slip into the first quarter, pieces of it, and that might have an impact. We don't consider that likely or we would not have kept the forecast, but that's possible.

And Doug, just on Energy gain for next year -- I know it's very early -- but if we stay in the current crude range, how do you think about topline growth for Energy next year in these current Energy price environments?

Our view of next year's Energy market hasn't really changed for a while. I guess we have always foreseen that it's going to stay in this range through 2016, and so our view of how Energy is going to perform next year really hasn't changed. We still see it in the mid-single-digit growth range next year. It's obviously going to get stronger as the year goes on simply because the first quarter will be the hardest comparison year on year, and obviously we are more at the ongoing run rate now.

But as you annualized through the rig count decline and the modest price pressure that we have had and you continue to gain share, as we are doing, we know that with a stable ground we will start showing positive sales growth. And we are, at this point, quite confident in that.

Thank you.

Gary Bisbee, RBC Capital Markets.

To follow that last question up, Doug, what do you think are the major puts and takes that we should be thinking about at this point, thinking about 2016? So you just covered Energy, but it seems like the level of synergies from the big acquisitions is likely to be less. What are the other major things we should think about that will impact the pace of growth next? Thanks.

Well, Gary, of course, one, we're not in the forecast mode for 2016. But I guess as you play it forward, obviously, I don't know what the FX world is going to be in the pension world. It would be hard to imagine both working against you next year simply because pensions are going to be interest rate sensitive. Higher interest rates mean lower pension costs, and higher interest rates probably mean maybe higher FX. Who knows? We will see what is built in once the Fed actually makes a move.

So it's hard to see them both moving against us. So I would say our guess is that environment is going to be more favorable, not less favorable, next year as we move into it.

But as we look at the momentum that we have broadly in our businesses, we would expect Institutional and Industrial and Other services to continue to perform well. We are doing great on new business productivity. We continue to add talent. We continue to do the things. We still have lots of cost savings. Europe, as we've said, is 100 points a year for the foreseeable future. That's 20 points total. And we would expect to be at least in the 50 to 75 basis point type OI margin leverage next year with what's on our docket and have better sales growth. And then obviously the business that is going to probably see the most significant change year on year would be Energy. And this year we are talking about it being down 3% to 4%, and next year we would expect it to be positive in the mid-single digits.

So I think when you add that together, we feel like we will be in a good position. Wildcards are what do we do on M&A and then, obviously, economy, FX and some of the other stuff.

Great. And then to follow up, what has the lag been from Energy falling off to when you really see the raw material prices resetting as you update those contracts? Is it reasonable to think that raws may stay -- the benefit may last into a period where Energy is improving, or has it really been pretty similar as we think about the pace of the last six, nine months?

Well, broadly our view next year is that oil is going to stay in the same range it is now. So we wouldn't expect huge raw material inflation next year based on that. And I think if we are right on Energy, we will be right on the raw material view.

In terms of how they move, there may be a lag of a quarter or two at most. But typically, they move fairly in concert. It just takes a while for some of these things to run through your P&L, at times. We also have contracts which make push off raw material increases forward a couple of quarters as well.

Great. Thank you.

David Ridley-Lane, Bank of America Merrill Lynch.

So when you talk about flattish operating income in Energy for the full year, would that potentially contemplate a year-over-year margin improvement in the fourth quarter as those cost savings hit the full run rate?

For the year, if your sales are down and your OI is flat, you will have margin -- we would expect to have pretty modest margin improvement as a consequence of that. And certainly it's going to be driven by first quarter/fourth quarter offsetting second and third quarter.

Okay. Got it. And then within the legacy Europe business, could you just give us a quick update on the revenue growth and the year-to-date progress on the 100 basis points margin improvement target?

Yes. I'd say Europe, we are doing well. We had 5% growth in the first quarter. We tried to tell everybody not to expect that for the balance of the year, and I guess we proved ourselves right in the second quarter. We were up about 2% in the second quarter, but we expect, still, to be 3% to 4% growth for the year. And I would also say we are quite comfortable that we will be plus 100 basis points on OI leverage as well for the year.

I think all businesses, except Energy, are forecasting a better second half in Europe than first half, and I think based on new business performance and other measures that they have taken, it all adds up to us.

If I could just sneak one more in, did you quantify the growth in new business bookings in this quarter?

No, I don't think we've given a number. We will give the number out here in a little bit in the broadcast.

All right. Thank you very much.

John Quealy, First Canaccord Genuity.

First question, on food and beverage and Institutional, both the best organic growers, can you comment volume versus mix for both of those in a little bit more detail, if you could?

Yes. I mean I would say, broadly, our pricing in all segments in 2015, including year-to-date, is very consistent with what we saw last year in 2014. So I think 1% pricing, roughly, and so in institutional we were able to have like six year-to-date, roughly. It's going to be five and one. F&B also had some acquisition help. They are in about the same camp organically, and it's going to be, similarly, five and one.

Okay. Thanks. And then as a follow-up, just in terms of summarizing Energy, would you consider the Q4 -- it sounds like there's some goodness coming back to the business in Q4. Would you characterize that more upstream versus mid-and downstream? Thank you, Doug.

Yes, it's pretty much across the board in the Energy business. So we will see improvement certainly in downstream but also in the upstream businesses.

Now, I want to catch this. Energy is not going to be back at its expected run rate in the fourth quarter. This is what I would just call modest improvement is what we have forecasted, via, if you really will, second and third quarter. So some is seasonality, but the improvement we are forecasting is a little better than you would normally see on seasonality. And really, we are talking sequential improvement here.

Manav Patnaik, Barclays.

Good afternoon, guys. One question I want to talk about, and I think you mentioned in your concluding remarks, but none of this includes M&A. So I just wanted to get an updated view how you are seeing the M&A market. I think early on in the year you talked about valuations not catching up to reality. So I was just curious what your pipeline looks like and what we should expect.

Yes. Well, we closed, obviously, on one transaction, in China in our water business. And so that business, since it is closed, is included in our forecast. And as I mentioned in my earlier remarks, unannounced M&A, which generally means we haven't closed or haven't closed on it, is not included in here.

I guess the best I can say, and I will give you a reason for this, is I feel like we really have got a very good M&A pipeline. I think it's highly likely to bear fruit and start helping us build momentum. With that said, we've got a lot of experience in M&A, and I do personally. And I never really count this stuff until it's closed because you are always shocked at the ability or the capability for 11th hour surprises. So I really don't want to forecast.

I guess the good news, I think, take our forecast right now as it is, M&A. When it comes, we will make clear what the expected impact on the year will be at the time that we announced any M&A, if we do. And right now, while we like the pipeline, they just aren't closed. And I expect they will, a number will, but it's an impossible thing to predict. So we are telling you not to count on it until it's done.

Okay. That's fair enough. And then if I could just get an update, maybe this is not in a material change, but just on the healthcare division, you guys were making some changes, trying to get that going. Anything to talk about over the last quarter?

No. I think healthcare is continuing to perform as we expected this year. It's going to have some quarter anomalies up and down. But for the year, we still expect mid-single-digit growth from that business. I think they are doing the things that we expect and want them to do. They have done a great job, I think, recasting our program and benefit to acute care. We are getting traction. We are talking to hospitals about things they have not really been talked to before and ways that they haven't talked to before were nice. But we are going right after, we think, a very important issue. We are having good reception. We've had some significant sales, i.e., that's why sales have started moving in the right direction, and we expect this to continue to improve, but it's not going to be an overnight sensation. We expect mid-single digits, and we would hope that we would grow faster next year.

Shlomo Rosenbaum, Stifel.

Doug, I wanted to change stack tack a little bit from Energy. Outside of Energy, we were expecting that all the units are going to continue to improve through the year. Sitting halfway through the year, do you still expect that? And in general, do you expect all the units will continue to improve year on year outside of Energy as we exit the year? In other words, how do you see the momentum in the other businesses going?

So I guess a quick rundown, I'll start with Institutional. I mean Institutional had a strong first half, and we expect them to have an equally strong second half. They are growing 6% in the first half, and we expect them to grow 6% in the second half. And that's both global and -- that's both US and outside the US, crudely.

In terms of F&B, that business is, we believe, going to get stronger as the year progresses. So 5%-6% is going to turn into 6%-7% organic, first half to second half. Water, we expect a stronger second half, really driven by light which we think will be in the 6% to 7% growth range, and heavy probably around 4% as it's still somewhat dragged down by a sluggish industrial environment. Those are the big businesses.

Paper is going to do fine. Other segments -- K, QSRFRS -- I mean QRSA had kind of a blowout second quarter, which a lot of it is just timing. We don't expect it to grow 14% as our terminal value, but it's going to have a very strong year in total.

Okay. And then just the press release, when it talks about getting to the guidance mentioned or discussed some variable compensation and lower tax rate that wasn't part of the commentary last quarter, from an operational standpoint, do you feel like you are in the same position as you were, say, a quarter ago, to achieve the results, or am I just reading too much into the commentary there?

The commentary around -- well, the variable compensation, we usually -- the first time we ever adjust variable compensation is typically in the second quarter. First quarter is just, we think, too early to be adjusting the comps. So that's a past practice that I think probably 19 out of 20 or nine out of 10 years is what we follow. There may be extreme years like 2008-2009 where we would change that practice. So the second quarter is just a reflection of that's when we change it.

The only thing that got adjusted was a piece of the corporate payout that really had nothing to do with division payouts, which weren't significant. We are talking about 10% of the annual bonus being affected. It's not big, big news. And I'd say that's how we have always been structured. Meaning we've got a piece of variable comp. We pay well for really good results, and we don't pay much for medium results. And this year FX is stronger than we expected. I mean that's the news, and we're going to be in mid-single digits. That's not our performance level. And everybody here -- it is not anybody's fault, but it doesn't really matter. This is -- it's how we roll.

So I would say I wouldn't read anything into it. I think that's exact how this business has performed over the years, up and down, and we only called it out because it was probably a $0.01 over maybe a normal move. So it's not a huge move.

Andy Wittmann, Baird.

You have talked in the past about how, after several years now of synergies and cost outs from the acquisition, you're going to be doing some of the same, you are just not calling them that anymore. But you mentioned the 50 to 75 basis points of margin improvement that you think is possible, how much of that is from discrete, identifiable actions versus what you would call normal operating leverage from growth in the business?

Well, we will certainly -- we count on continued volume growth when we give out that equation. So certainly I would say that sort of favorable gravity, if you have volume growth going your direction, you are going to have the benefit of some OI leverage as a consequence, as long as you keep costs under control, et cetera. So certainly there's a piece of that. But then, yes, there are other discrete actions. That's not going to get you to 50 to 75 basis points. Maybe that will get you to 25.

We've got Europe, which is 20, which is more discrete actions than anything else, certainly not undone by volume going forward. And then there are a number of other areas. I think we've talked in the past that when you do these deals, you go after purchasing synergies right away, duplicative G&A right away. So harder things and the things that take more time because typically they are system enabled are, one, things around product supply, and you got to be pretty thoughtful.

And so we still believe there's room over time in product supply to keep doing this. We have ended up with a large number of clients. And we are always quite cautious in driving synergies before we completely understand and can control the outcome because we don't like to risk sales growth. It's by far the largest value creator, and we believe momentum is a commodity that you treat with a lot of respect and don't undo if you can help it.

And so there's still plenty of things to be done. If I go around the world in many countries, we still have multiple legal entities simply because we have multiple systems. We are doing the systems work overtime, doing it at a pace that we can manage and control, and make sure that we don't ever have any announcements about SAP integration hiccups. We've publicly, in the 10 years that I have been here, done 40 countries. We never once mentioned SAP hiccup as a rationale for not delivering, and we would expect that over the next 10 years as well.

So that's how we think about it. But I would just say rest assured, there's plenty in our business that remains to be harvested in terms of cost savings and efficiencies.

Great. Thank you. I'll leave it there.

Dmitry Silversteyn, Longbow Research.

All of my calls have been answered, but I do want to follow up on a couple of things. First of all, when you look at the foreign exchange impact, can you quantify what it was in the other segment? I know it's not as international as the others, but it looks to me to be above 1% foreign exchange impact. Is that correct?

Let us get back. You are right in terms of sheer theory. It's going to be much less than the others. GCS is only -- equipment there is only in the US, and a large part of the test business is in US. So we will get back to you with that one.

If you just look at the press release, we show the public rate and the fixed rate.

Okay. I got it. Thanks.

It looks like 1%.

Secondly, if you look at the margin expansion that you are delivering in the Institutional business, it's pretty impressive, and actually we are seeing a little bit of momentum built here in the second quarter versus the first quarter. Is it a function of volume growth or mix or cost removal, or is it -- how much of that is raw material benefit? I'm just trying to figure out almost the step change the you are undergoing here. So what is behind it in terms of buckets of magnitude?

Yes. I would say, one, we would expect the Institutional rate to be better full year than last year, certainly, but I wouldn't start drawing straight lines into the sky from Q1 to Q2 as we move forward. So the things that are driving it broadly are certainly innovation, cost savings. Right? They are getting leverage with volume. And then you've got this pricing raws formula where we continue to, what I would say, is pick up from past raw movements that went against us. But you also have some quarter timing in here and some other stuff. So while institutional margins I would expect to continue to improve moving forward, I don't want to oversell the change from 1 to 2.

Mike Ritzenthaler, Piper Jaffray.

Just a couple of follow-ups from previous questions. On the momentum behind the Global Institutional business, in particular, it seems like -- and Doug, just based on your previous answer there -- raw materials versus new business wins and things like that, I'm curious about the cadence of that business of, I guess, Specialty in particular but also Institutional in 3Q and 4Q just in terms of reasonableness? You said that they are going to improve, but just kind of wondering what some goalposts are for that business in 3Q and 4Q?

Well, let me talk top line, and then I'll talk bottom line. So for top line, really broadly in that segment, I would expect a second half a lot like -- the Institutional business second half a lot like first half, which was strong. I would say going beyond this year, one of the great benefits that we have in the Institutional businesses, we have significant upside potential outside of the US while we continue to drive the US. So I think that business this has got a lot of legs and will continue to grow.

In terms of the other Institutional businesses, in particular Kay and the like, they had a very, very strong second quarter. So while they are going to have a good year, that business can be lumpy. They have rollouts which pops up a quarter. They roll against them the next year. For the year, they're going to be in good shape, and so we feel good about that as well. And when you look at OI growth across, I would think that business will continue to perform. We would expect, in total, to have year-on-year improvement in margin as we go forward, and I would put that like we expect for the Company overall, in the 100 basis point area.

Okay. That's super helpful. Just another follow-up on Q4 in Energy. You had mentioned cost savings in synergies, which I think you've done a great job of articulating what those should be. The new innovation-driven sales -- I'm wondering if there is any other detail that you can provide maybe based on other product introductions that you've done in the past? This is certainly a challenging environment to be introducing new products. But maybe just a little bit more granularity around your visibility there and maybe based on recent product introductions.

I'm sorry. Innovation broadly? Innovation in Energy specifically?

In Energy specifically. You called out cost savings and then innovation as the two drivers for Q4.

Yes. We are not going to get into a bunch of specifics, but I would say we've -- look, we felt really good coming into the year about our innovation pipeline for Energy. There was a bunch of technologies that we have been working on. We are trying to do what many other people are doing, which is, one, reduce the amount of water it takes to either do floods or fracs, make sure that the efficacy of those floods and fracs are more efficacious than they were before, i.e., produce more. There were a number of technologies that we were working on to do that, based on learnings that we had. We have launched these technologies. They have had successful field trials. We have now secured business and are in the process of rolling some out. And while I would agree with you, I would say downturns -- you don't have to think volume leverage or opportunity near-term when you are rolling out innovation and downturn. But often you have got more openness to looking at how technology can change economic outcomes when customers are in pressured situations. And so while adoption in Energy generally is relatively slow, I might argue that this can accelerate some adoption simply because people are looking for new ways to do things to enhance the economics of the industry overall.

And so I think best is looking at Energy specific, but we have had a number of very strong uptakes here. And so, as I mentioned earlier, what we are talking about sequentially from Q3 to Q4, the planned uptick, we feel very certain about the money coming in. So it's not really an if, it's always a win, and I would say we feel quite certain about the majority of it. But you are never completely certain about all of it.

And I'm really not trying to send any big news here. This is true in every one of our businesses, by the way. But I'd say, based on the pipeline, what we see, what we have done in terms of securing the business, the CapEx that is being deployed that was, frankly, undertaken several years ago, I think we have got a good handle on what's going on in that business, and we do believe that after second and third quarter we will start seeing improvement moving forward.

John Roberts, UBS.

Maybe I missed it, but in the discussion on food and beverage, talking about offset market headwinds in North America and Europe where lower volumes have continued to impact sales, I can see individual customers going up and down and so forth, but I would have thought the food and beverage market is relatively stable overall.

Yes, certainly food consumption is relatively stable overall, and obviously we have got changes in what people buy. But you have got a lot of consolidation in both Europe and North America as food plants are consolidated, like taken off-line. So when we talk about the food and beverage market, we're talking about our market, i.e., selling hygiene and food safety solutions into those markets. And we have been through this before, so it's not new news.

I would say, in spite of that, organically the food and beverage business globally had 5% growth, and we're looking for organic growth to pick up through the 6% to 7% range in second half. But we are not trying to call out that there is any major concern here. It's just something that we have got to continue to fight through.

Okay. And then in the M&A area, not in your business particularly, but there's an awful lot of transatlantic deal activity underway, given foreign exchange rates and cheap interest rates in Europe. Is your M&A pipeline tilted at all to take advantage of that?

Yes. I would say our M&A pipeline reflects the global business that we are. So there are opportunities in a number of our businesses, and a number of them are outside the US.

Mike Harrison, Global Hunter Securities.

Doug, I was wondering if you could talk in a little more detail about the outlook on your industrial business and specifically any concerns that a slowing in China or a demand reset out of China could impact your paper water business?

Yes. I guess -- here is our China business. Our experience in China was that the real slowdown began a year ago. And as we talked last year in the third and fourth quarter, our businesses exposed to the industrial side of China flow in the second half of last year. So in many ways, we are going to start lapping an easier base, starting in this quarter, the third quarter.

So China -- I think, when you look at the business, let's take the first half this year, we had continued pressure in the Industrial exposed segments -- deal, mining, power, paper. But institutional, FNB, test, light water, were quite strong, in aggregate, double-digit. In total, China had very good profit in the first quarter, and that team has done a good job working margins. And we continue to grow and add volume to the plant that we put in just several years ago, so we are seeing all the positives from that.

Second half, we expect stronger organic sales growth in China, so in first quarter, it was [negative 1] combined. Second quarter was [positive 1]. I wouldn't call it a huge turnaround. So relatively flat in the first half. But, in the second half, we would expect low to mid-single digit organic sales growth organically. Then when you add the Jianghai acquisition that we made in water, the China results will be more in the double-digit area in the second half as a consequence of low to mid-single digit organic plus the acquisition.

I don't think China is going to be a negative story for us. It's not going to be the standout story like 15% growth that it was for a number of years, but I just don't think that's going to be one of our big issues.

All right. And if I look at the Energy business and the talk there is about deferrals or delays in some of the big offshore and oilsands CapEx, you mentioned your outlook for 2016 looks like mid-single digit growth. But can we get back to the 6% to 8% plus topline growth without that big CapEx, or does it look more like a mid single-digit grower as you look out to 2020?

Yes, I'd say certainly by 2020 we would anticipate we will be back in high single digit, low double-digit range because our belief is that there will be a correction in that business by 2020 now. What year is it? I guess we said it's not 2015 and not 2016, so at least the range is narrowing.

I would say a couple things. Yes, this is what happens. Right? Right now this is oversupply. Demand hasn't really been -- there has not been demand in the structure. It has been oversupply. And so people are not funding new CapEx because new supply isn't unwarranted. This ultimately will lead to a reduction in supply because old wells come off, and they are not being replaced at the same rate with new wells. And this will trigger a price change, which will ultimately trigger more CapEx. And I would say our business is principally production phase, which is why it doesn't move in such wild gyrations.

But with that said, ultimately, if you told me there's going to be no new CapEx in this business for 20 years, I would say ultimately that's going to hurt production. But that just doesn't make any sense, given other beliefs.

And so I think what you will see is a natural evolution of things in this market. We don't see 2016 being materially different than 2015. Our results will be different, simply because we are lapping a different base, and the base is fairly solid. So the businesses that we are gaining will start showing up in the results, i.e., when you compare it to 2015.

So I think we are pretty confident about how we are viewing this market, but yes, the Energy business is still a really attractive business and we think will be back to the type of results that we saw before.

Rosemarie Morbelli, Gabelli & Co.

Doug, I was wondering if you could give us a little more detail on Jianghai. You have given us $90 million in revenues but nothing else. Can you share their profitability? Can you share some of their product lines? And are they the reason for the higher other minority interest since you have a majority ownership but don't own the whole thing?

No, we didn't own Jianghai long enough in the first half or second quarter to have any impact at all there. So no, it had nothing -- NCI is principally Energy. And it's the money that goes to your JV partner is where we have them. That's basically the reconciling column for joint ventures.

Jianghai is principally focused in heavy categories. It's got very good margins. They run a very good business. They run a model not very dissimilar from the model that we run around the world in our water business. All these reasons were the reasons that we were attracted to the business. We bring over additional what I call management competency and know-how into our business. And so our really plan with this business is, one, like we do with most, first rule is do no harm. But we are going to operate the business, but it's with current management as we watch and learn and figure out what we can also apply broadly to our other business. This increase is our footprint, I think, at an attractive time because, as I mentioned earlier, a lot of the industrial slowdown, at least the part that we are exposed to, really started a year ago. So we are a ways through this in terms of what China has got to do to, I think, right-size its supply side.

What kind of a growth rate can we expect? I mean there is obviously a lot of water treatment necessary, whether it is waste or growing industries in China. So what kind of a growth rate can we expect from that particular business going forward?

I would say our expectation in that business is for the next few years it's going to be in upper single digits. And then as you get what I would call China getting more in balance in terms of capacity in some of the heavy industrials, I think that business will start taking off faster from there.

P.J. Juvekar, Citi.

Doug, QSR was up 11%. I know you said it's lumpy, but still nice growth. Are you positioned with the right customers within QSR that lead to a show of solid growth? Can you just talk about your spread of your customer base?

Yes. I think the best way to think about QSR is it's two worlds. You've got continued expansion outside of the US. Principally growth there is going to be as we grow with our customers as they expand, and we continue to gain new customers. So kind of a traditional story.

If you look in the US, which is a huge piece of that business, both the market and, frankly, our business, we think we are positioned with the right ones. Our customers -- I mean that industry is going to go through a lot of change, and a lot of it is externally driven. So certainly, it's customer preference, which they are all going to react to. I will say all these customers have been written off in the past, and they all have been very good and I believe will be going forward into figuring out what the right formula is to appeal to that day's clientele.

But the second internal impact affecting it is the one that probably is more germane to us, and that is increased labor costs. Right? The pressure broadly on raising minimum wages and then the $15 mandate that you are starting to see in some cities, coupled with ACA. And there it is going to be -- they are not going to have any choice. A lot of the owner/operators and franchisees are going to have to take out labor. If labor is going to go up that dramatically, their profit margins are not such where they can pay those labor rates, and so they are going to reduce labor.

How are they going to do it? They are going to put in labor saving technology. So certainly some of the front-of-the-house stuff, whether it be order boards and the like, are not going to have a big impact on us. But in the back of the house, dish machines are going to become much more prevalent, we believe, in that industry over time. We are starting to see it now because they want to take the labor required to wash dishes manually and displace it with mechanized warewashing. There are other machines, i.e., floor scrubbers and the like, which we believe are going to be much more prevalent going forward than you saw in the past because the math equation has just, frankly, changed in terms of does it make sense to invest in that capital or in that expense going forward.

And that -- I think we are in great position to help them manage through that change, and that's how we are working with it. What specific needs do they have? How do we customize the equipment to work with that need? How do we get the economic formula to work for them in the way that they need it to work given the environment they are in? I mean we were doing all these things, which is what you do as you partner with customers over time, and I think a big part of the solution is going to be from us.

Thank you for that. And then in water, PDQSR seems to be doing well in hotel and healthcare and universities. How much of your water growth is driven by PDQSR and improvement in sales?

I don't know that I've got the exact percent of what the absolute growth is. We really trace our -- is what's one of the jewels, we got many of them, in the Nalco acquisition. And you are right. We are deploying this technology broadly. We are working, if you will, to de-cost it so that we can use it in institutional applications also. It's not a specific product, as you well know, but it's a program that includes controlled systems and products that specifically run through it because you need specific products to be measured by the 3D controller. So it's really an enabler for us to go drive growth going forward.

So I guess it's central and important, but I don't have a specific like what percent of the sales growth comes from 3D.

Bob Koort, Goldman Sachs.

I guess I need to work on my queuing skills. I've lost the hour, and all my questions have been asked. But I would like to applaud Mike and the team for putting on a much more helpful quarterly report. So we really appreciate that. Thanks.

Well, I'll let Mike say thanks to that.

Well, thank you, Bob. Appreciate it.

You bet.

Scott Schneeberger, Oppenheimer.

Just a couple quick ones. Within Energy, do you mind breaking out what bell stimulation growth is versus production in downstream? I ask this in light of you mentioning that there are some new business bookings and wins. I'm just curious where those are contributing, and what the overall, of the net down this year, 3%, 4%, 5% is going to be?

Yes. The real whole volume degradation is -- the majority of it is occurring well count, which is down like 30% in the quarter, which is about where we thought we would end up maybe a month or two earlier than when we started the year. So that's where the volume is. The other businesses are growing.

Outside the US in total, the business is growing mid-teens. So the Energy market, the real pressure is specifically in the US market and specifically around where you had a lot of drilling activity previously, which has just come to a halt. And so it's very specific, the page, and we are seeing it, witnessing it, and I think managing through it quite well.

Thanks. And just my other one real quick. You've covered this already, Doug. But when you touched on industrial in China, but in North America there's some concern that the economy is slowing, the industrial economy is slowing. It sounds like you are still pretty confident for the back half. But just curious if you could go a level deeper into some of the subsectors? Are there any signs of weakness you are seeing? Because it sounds like you are pretty confident otherwise.

I am a little bit. I've got to say that I never saw the huge signs of strength. So I don't think the second half is going to be materially different, at least from our vantage points, in the first half in the US. And there has been industrial pressure in the US for the last year. So it hadn't been as severe as China. But broadly, we have felt some pressure in our heavy water business, which has been steel, obviously overcapacity in China begets challenges around the world in steel. And so steel has been under pressure everywhere. Mining has been under pressure everywhere. And I think we will continue to see those.

So I think that is really experience. So why are we confident? Because I think it's basically in our business. And what we see is, right now, is share gains taking hold because I think we've seen the leveling of the industrial production, at least the part we are exposed to in the US, and we feel like the share gain that we made is going to start taking root. And we don't have any monster forecasts in the second half like huge improvements planned.

That does it for question and answer. Now I turn the call back over to Mr. Monahan for closing comments.

That wraps it up for our second-quarter conference call. This call and the associated slides and discussion will be available for replay on our website. So thanks for your time today and your participation. Our best wishes for the rest of the day.

And that concludes today's conference call. Thank you all for participating. You may now disconnect.