艾默生電氣 (EMR) 2008 Q3 法說會逐字稿

Good day, ladies and gentlemen.

Thank you for standing by.

Welcome to the Emerson third quarter 2008 results conference call.

During today's presentation, all parties will be in a listen-only mode.

Following the presentation, the conference will be opened for questions.

(OPERATOR INSTRUCTIONS) This conference is being recorded today, Tuesday, August 5th, 2008.

Emerson's commentary and responses to your questions may contain forward-looking statements, including the company's outlook for the remainder of the year.

Information on factors that could cause actual results to vary materially from those discussed today is available in Emerson's most recent annual report on Form 10-K and filed with the SEC.

In this call, Emerson management will discuss some non-GAAP measures in talking about the company's performance and the reconciliation of those measures to the most comparable GAAP measures is contained within a presentation that is posted in the Investor Relations area of Emerson's website at www.emerson.com.

I would now like to turn the conference over to Ms.

Lynn Maxeiner.

Please go ahead, ma'am.

Thank you, Jamie.

I am joined today by David Farr, Chairman, Chief Executive Officer, and President of Emerson; and Walter Galvin, Senior Executive Vice President and Chief Financial Officer.

Today's call will summarize Emerson's third quarter 2008 results.

A conference call slide presentation will accompany my comments and is available in the Investor Relations section of Emerson's corporate website.

A replay of this conference call and slide presentation will be available on the website after the call for the next three months.

I will start with the highlights of the quarter as shown on page two of the conference call slide presentation.

Third quarter sales were up 14% to $6.6 billion with increases in four of five business segments.

We have solid underlying sales growth of 7% in the quarter, with strong international growth and solid US sales.

Operating profit margin improved 30 basis points to 16.6% and earnings per share from continuing operations was $0.82, up 15%.

Operating cash flow of $827 million and free cash flow of $672 million in the quarter.

Order growth continuing to show strength, up 10% to 15% in the quarter.

The balance sheet remains strong -- average days in the cash cycle improved to 65 days from 67 days.

And operating cash flow to total debt ratio was solid at 64%.

Moving to the next chart, the P&L.

Again, sales up 14% to $6.568 billion.

Underlying sales were up 7%.

Currency contributed 5 points and acquisitions net of divestitures added 2 points.

Operating profit dollars in the quarter were $1.092 billion or 16.6% of sales, the 30 basis point improvement mainly driven by cost containment programs and volume leverage.

Net earnings from continuing operations were $647 million, up 13%.

We repurchased 4.6 million shares in the quarter.

Diluted average shares outstanding were $787.8 million which gets you to an EPS from continuing operations of $0.82, again up 15%.

We recorded a $36 million impairment charge relating to the European Appliance Motor & Pump business which resulted in a negative $0.04 impact, bringing the reported EPS to $0.78.

We have entered a definitive agreement to sell the European Appliance Motor & Pump business and expect to close in fiscal year '08.

The next slide, underlying sales by geographic region.

First, the US was solid at 4%, and Europe was up 3%.

International growth strong at 10%, led by strength in Asia up 16%, Latin America up 16%, Middle East/Africa up 15%.

That gets you to your underlying sales number of plus 7%, currency adding 5 points and acquisitions net of divestitures adding 2 points, which gets you to a consolidated sales growth of 14%.

Next slide, some additional income statement details.

Gross profit dollars of $2.413 billion or 36.7% of sales.

SG&A, 20.1% of sales, which gets you to the OP of $1.092 billion or 16.6% of sales.

Other deductions net was $100 million, the increase driven by an $18 million increase relating to currency transactions, $9 million charge related to the Appliance Control business as we evaluate potential sale of the business.

Interest expense was $46 million.

That gets you to the pretax line of $946 million or 14.4% of sales.

Taxes in the quarter were $299 million for a tax rate of 31.7%.

The tax rate for the year is still expected to be approximately 32%.

Next slide, the cash flow and balance sheet.

Operating cash flow was $827 million, down 8% in the quarter versus a very strong prior year quarter.

Capital expenditures were $155 million, which leaves you with free cash flow of $672 million.

Free cash flow was 104% of net earnings from continuing operations in the quarter.

At the bottom of the chart you can see the trade working capital balances, which were 17.7% of sales, a nice sequential improvement from the second quarter when the ratio was 18.7%.

Next slide, slide number 7, the business segment P&L.

Business segment EBIT in the quarter of $1.051 billion, or 15.5% of sales, difference in accounting methods of $62 million, up $6 million.

Corporate and other in the quarter was $121 million, an increase of $23 million, driven by $11 million related to commodity hedging, mark-to-market and $12 million related to environmental costs and other items.

We evaluate this periodically.

There's nothing big here.

It's just an adjustment based on our company-wide review.

Interest expense of $46 million, down $15 million, driven by lower interest rates, which gets you to the pretax line of $946 million.

On slide number 8 we'll start going through the individual business segments.

First, a strong quarter again for process management.

Sales in the quarter of $1.731 billion, an increase of 18%.

Underlying sales were up 13%.

Currency contributed 6 points and a divestiture net of an acquisition subtracted 1 point.

By region you have the US up 12%, Asia up 21%, Europe up 5%, Middle East/Africa up 14%.

We continue to see strength across all parts of this business, the systems, valves, and measurement.

EBIT dollars in the quarter were $346 million or 20% of sales.

We had nice margin expansion in the quarter driven by leverage on the higher volume as well as improvement due to a litigation charge in the prior year period.

We acquired the TopWorx business in July.

This business provides valve control and positioning sensing solutions with approximately $40 million in annual sales.

We continue to make strong investments in technology and global infrastructure, paving the way for future benefits.

Next slide, Industrial Automation.

Sales in the quarter of $1.271 billion, up 16%.

Underlying sales were up 8% and currency added 8 points.

By region, the US was up 11%, Asia up 16%, and Europe up 4%.

We continued to see good growth in the business, led by the power generating alternator, fluid automation, and industrial equipment businesses.

EBIT of $186 million or 14.6% of sales in the quarter, with price actions offsetting higher material inflation.

Order growth of plus 20% during the quarter, with the fundamentals here remaining strong.

Next slide, network power.

Sales in the quarter of $1.672 billion, up 26%.

Underlying sales were up 10%, acquisitions added 12 points of growth, and currency added 4 points.

By geography, we had the US up 10%, Asia up 13%, and Europe up 3%.

It was a strong quarter for Power Systems precision cooling and telecommunications businesses.

Order trends are on target for the normal cycle of this business segment.

EBIT dollars of $212 million or 12.7% of sales with sales volume leverage and cost reductions driving the margin improvement in core business.

Acquisitions had a dilutive impact of approximately 150 basis points.

Network power's strong global footprint and market leading technologies continue to provide momentum for growth.

On page 11, Climate Technologies.

Sales in the quarter of $1.087 billion, up 4%.

We had underlying sales up 1% and currency added 3 points.

By region, the US was down 1%, Europe down 6%, and Asia was up 14%.

Current US orders have increased due to the hot and humid weather this summer.

EBIT dollars in the quarter of $169 million or 15.5% of sales.

Margin down 110 basis points, with significant commodity inflation more than offset pricing increases and higher restructuring costs.

Upcoming regulatory changes provide good growth opportunities as we move forward.

Next slide, Appliance & Tools.

Sales here of $998 million, down 1%.

Underlying sales were down 1%.

Divestitures subtracted 1 point and currency added 1 point.

By geographic region the US was down 3%, Europe down 4%, and Asia up 41%.

Tough market conditions continued in the consumer related businesses and the professional tools and hermetic motors businesses showed strong growth.

EBIT dollars in the quarter were $138 million or 13.8% of sales.

We recorded a $9 million charge in the quarter relating to the appliance control business as we evaluate the potential sale of this business.

Also, the benefits from cost reduction efforts were offset by volume deleverage and pricing actions offset significant material inflation.

Going to the last chart, the summary and outlook.

Another strong quarter for Emerson with underlying sales growth of 7%.

Operating profit margin expansion of 30 basis points and continue to show strength in the order trends, up 10% to 15% in the quarter.

Really solid results for the first nine months of fiscal year '08 that sets a really strong foundation for another great year at Emerson.

Looking for full year underlying sales growth of approximately 6% and reported sales growth 11% to 13%.

We've had excellent operating margin improvement driven by new products, aggressive restructuring and emerging market growth.

We expect fiscal year 2008 operating margin of 16.2% to 16.4% and earnings per share from continuing operations in the range of $3.05 to $3.10, a 15% to 17% growth over 2007.

We are also targeting full year operating cash flow of $3.3 billion, capital expenditures of $800 million, and free cash flow of $2.5 billion, all of which will drive return on capital expectation of 21%.

So with that, I will turn it over to David Farr.

Thank you very much, Lynn.

Good afternoon, everybody.

We just finished an excellent Board meeting, covering what's going on around the world.

For many of you that have been following us for a while, you might not know or might know that I'm about to finish my eighth year as CEO of Emerson as we go into the last quarter of the physical year of 2008.

It's been a lot of fun.

It's been quite enjoyable.

I want to welcome everybody on the conference call today and I appreciate your time as we talk about the quarter and what we see happening the next couple months.

First of all, Q3 results were excellent, both in sales growth, reported growth of 14%, underlying growth of 7%, continuing ops EPS [of] 15%.

Operating margins as we talked about in the beginning of this year will be in 16% plus range and we did 16.6% for the quarter.

And operating cash flow remains strong for the quarter and year-to-date we're up 13% at $2 billion.

This morning we did approve our dividend, so it will be our 53rd year of increased dividends per share.

So as we look at this year right now, we're looking at a very strong year.

I want to say that our global orders remain strong as we reported on the GAAP basis, 10% to 15%.

On a fixed rate basis in the 10% to 5%, driving very solid underlying growth rate as we said in the press release, around 6%.

I would say it would be slightly better than that, but we are real close to that 6%, plus or minus a couple 0.2 to 0.3 point basis.

The global operating team of Emerson is doing a great job in this challenging environment.

All of us know that the winds continue to shift.

We look at the momentum we have in certain markets and then we look at the deacceleration in other markets, but we have continued to execute, to get the sales necessary to grow the underlying growth around that 6% to 7% range and to deliver margin expansion and deliver growth in cash flow and earnings.

So as I look at this year, our underlying growth will be around the 6% range, maybe slightly better.

Our operating margin will be up 50 to 60 basis points in a very challenging material environment.

Up from last year's 15.8% range, to this year's 16.3% to 16.4%.

We'll be delivering earnings per share on top of the last three year's average of 30%, somewhere between 15% and 17%.

Very strong earnings growth in a very challenging global market.

On top of that, we'll have 21% return on total capital and we'll deliver $3.3 billion of operating cash flow, so free cash flow in the range of $2.5 billion, which will be around 100% coverage for the year.

Again, I want to say I want to thank the operating team around the world.

They've done a great job.

The last nine months have been excellent.

As we move into the close this year, I feel very good about what's going to happen.

We have a lot of momentum based on the orders.

Yes, as we talked about in May, at the EPG Splinter Group meeting, there are a lot of shifting economic winds out there.

But we are adjusting.

The business mix of this company is very strong.

We have businesses that are weak.

We're making those adjustments.

We are divesting businesses that don't fit us strategically anymore and we're making acquisitions where they make sense.

We're being very careful with our cash right now and our balance sheet is strong, extremely strong.

As I look at what we see today, it is no different than I saw in May when I was up in front of everybody.

Underlying growth, 5% to 7%, probably for the next nine to 12 months based on the strong order pace that we've been seeing.

But a lot can change in this environment.

We have political issues, we have geopolitical environments, a lot of things can happen.

But based on the order pace that we've been seeing now consistently for the last several quarters, I would say the best bet for the next nine to 12 months is in that 5% to 7% range.

No more clarity on that.

I can't give you any more clarity than that right now based on what I see out there.

But it's still strong and based on that we'll continue to do very well for the company.

The key issue that we talked about at EPG in May was material.

We are seeing significant material inflation.

We are taking the necessary action to offset that material inflation.

As we look at 2008 today, we remain green, which means that our price cost ratios are such that we're slightly positive.

The big issue is these numbers are quite large.

It's a margin diluter for us from the standpoint we are barely covering the material costs.

It's not a margin added as we look at it.

We have to get our margin improvement from other cost reductions and other programs and new products.

But as I look at 2009, as I talked about at EPG in Florida, we're looking at a number net material inflation going from 2.2% this year to over 5% next year.

Therefore, from our pricing action, which has been a little bit over 1% this year, we're going to have to go to 2% next year.

We are taking the actions.

We're getting the job done.

You may have a quarter or two lag here, but the operating executives are getting that price in place to offset the significant material inflation, and we're taking our time in getting it done right.

And they're doing a great job there.

But to be honest, as I wrap this up, to say that I'm slightly disappointed in our stock price performance in the last couple days would be an understatement.

Understatement.

As you all know me, I'm quite intense.

I have an enormous respect for this organization, and when I see a quarter that we delivered -- the nine months we delivered -- and I see the reaction I've been seeing for the last couple of months, I am not a happy camper.

With that, I open the floor to questions.

I love to take them.

Thank you, sir.

Ladies and gentlemen, at this time we will begin the question-and-answer session.

(OPERATOR INSTRUCTIONS) One moment, please, for our first question.

Our first question is from John Inch with Merrill Lynch.

Thank you.

Good afternoon, Dave.

Good afternoon, John.

Hey, first question I guess on network power, you called out the fact that acquisition dilution was 150 bips and I think it was 100 points last quarter.

Maybe it's a question for Walter.

Is there something else going on?

Is there a seasonal component, maybe Motorola's revenues were stronger, and that diluted a little bit more?

Another little acquisition in network power.

Impacted the margins.

Both are doing fine and according to plan.

But the overall level of the business is such that when you acquire with the margins without acquisitions, you acquire another small company, it is tend to be dilutive.

We bought a software company up in Boston that has margins significantly lower, so that's what really drove that down.

Dave, with -- you called out sort of the telecom CapEx environment.

Does that make you or give you a little bit more propensity to want to do acquisitions like this network power deal like you just did to take advantage of the environment?

How do you think about that.

I think we're being very cautious.

We are buying -- this acquisition was more tied to reliable power.

It's part of Liebert.

As I look at it right now, I'm more focused on a reliable power type acquisition than I would say a telecom type of acquisition.

We currently have I would say enough assets in the telecom space.

We are still going through, rationalizing what businesses we want to be in, what businesses we don't want to be in.

Pete [La Conta] who runs that piece under Ed Feeney is doing a great job of getting that fixed.

So I think at this point in time I'm happy with that pace.

You'll see any acquisitions in the network power side more in the reliable power and more on the embedded computing and embedded power side with Jay Geldmacher.

Lastly on HVAC, you talked about regulatory changes.

Last quarter you talked about regulatory changes in China specifically.

Any kind of an update there?

I mean, how significant could these HVAC changes in China actually be to the business and when do you start to see some of that?

They'll be very significant.

We approved today close to $70 million of capital for expanded capacity and scrolls.

As I look at it right now, we'll start seeing the benefit in I would say mid-2009.

We don't know for sure because it's when they go in and some people -- our key customers are already starting to make the product, more efficient product, level two and level one products.

And we'll see some benefit in 2009 on the calendar year basis.

But we're adding over 1 million unit capacity in China and Thailand right now to serve this more efficient compressor demand for the air conditioning.

I would say the run rate will be within 12 to 18 months around $1 million and -- within a couple years, $2 million.

It will be significant.

Great.

Thanks very much.

You're welcome, John.

Thank you.

Our next question is from Jeff Sprague with Citi Investment Research.

Thanks.

I thought when you got going on the stock price there, the FCC was going to have to come in and bleep something out.

I never sweared one time.

Maintained your composure, congratulations.

I'm a very intense guy, Jeff.

You could probably see the jugular coming out of that one.

Dave, the US strength outside of HVAC and appliance continues to be very interesting, and I just wonder if you could shed a little more light on what's going on there.

Is it -- I guess some of it would be directly US energy infrastructure related activity, but is there -- is there signs of maybe a broader resurgence in the US, maybe dollar driven, export driven?

What do you think?

I think the underlying economics of the US continue to weaken.

Non-res gross fixed investment will continue to weaken.

You are having the benefit of the dollars we talked of before.

There's no doubt about it.

It's slowing down but it's being pushed out, so the benefit is there, so we're still seeing some growth.

You're seeing good growth from our process businesses.

The dollar from the standpoint is weak, so a lot of the Middle East infrastructure type of businesses are coming out of our US operations in Texas and things like that.

You are seeing the US competitiveness being very good right now with the weak dollar.

There's some negatives about the weak dollar because of inflation.

But that's driving that.

I do not see a resurgence from the standpoint of the underlying economic environment of the US.

I still believe it will be very weak next year in 2009, both the non-res and residential.

The one exception of that in my opinion will be the process business.

As I said earlier this year, I thought we might see a little bit of benefit from HVAC in the second half of this year.

The heat has come.

Inventories are very tight out there and we are seeing a little benefit from that at this point in time.

So underlying growth rates have improved in that space and that will help us as we finish out this fiscal year.

And could you elaborate on what you mean by quote, unquote, normal cycle and network power, you're talking about kind of a gradual deceleration or what exactly?

I'm talking about gradual deceleration, as we talked about, as I look at that space, is acting very normal at this time, unlike the last cycle which kept on growing and growing until it dropped.

When we started off the recovery, we were looking at 25% plus underlying growth rate.

You shift down into the 14% to 15% range.

We're now shifting down into the 10% to 12% range.

As I look at going forward here the next -- I would say the next 12 months, you're going to see that range grow more in the 7% to 8% to 9% range.

That is a normal cycle for us as we look at that.

Then it will probably step down in the 5% to 6% range.

That is the typical cycle we will see in that business.

It's a long cycle.

Usually lasts 8 to 9 to 10 years.

That's where we are right now.

I mean, versus the last cycle which was very, very strong and then just went cold and dead.

And finally from me, a little color on how big appliance controls is in revenues and I guess the charge was an impairment charge, as you think about?

As we look at it, you're talking about the business $150 million.

$150 million.

$150 million, approximately sized in sales.

Annual.

Annual sales.

And the charge, as we looked at the balance sheet, as we looked at everything, based on the valuation of the business, we felt that we needed to fix that.

As you do these tests on a quarterly basis, especially as you look at something like this, you have to take action.

You can't ignore it.

So we felt that the goodwill was based on the acquisitions from that company several years ago was overstated by $9 million, so we took the hit.

All right.

Thanks a lot.

Thank you.

Our next question is from Deane Dray with Goldman Sachs.

Thank you, good afternoon.

Just to follow up on Jeff's question.

On your point on the normal network power cycle, how long do you think it takes before you get the 5% to 6% and is that a bottoming there in your expectation?

No, a cycle usually goes negative.

I mean, I think you're going to be looking at a couple more years of -- I mean, right now you could easily be in the 6% to 9% range for several years, then go down to [4%] five years.

I think you're probably looking at 2010 to 2011 time frame when we'll see that.

It will eventually go negative.

It will turn negative.

It's hard to say when exactly that point is but is it 2011?

Is it 2012?

Is it 2013?

It's hard to say.

That's helpful.

Then on process management, we had some mixed signals in the quarter in other competitors, more likely discrete versus process or flow type of distinction, but can you comment on where you stand today in terms of backlog, visibility?

Because this really was the quarter I think you'd been working towards in terms of margins, incremental margins and so forth.

I think at this point in time our backlog is quite significant.

I mean it's sitting out there.

We have a very good visibility for at least 12 months right now as we move into 2009.

We feel very good about it.

But the world -- unless the world dramatically changes, these are long-term programs.

Our backlog is still building.

And we feel comfortable about it.

I mean, in my opinion, right now the global industry is short of resources, be it people, be it material, and I think you're going to see an extended cycle here because we can only do so much at one time -- which is good from the standpoint of getting things systematically through your plants, but I think you're going to see an extended cycle here for the next couple years and we have very good visibility on the process side right now.

In the release this morning, you made reference to investing in process management.

How much did that impact the quarter and what type of payback where it would see the benefit from that?

I won't talk about a quarterly type impact.

This is long term investments that we're making from next generation technology.

The wireless program and also our global infrastructure of people for solutions and service.

We have a very strong program internally to expand our PlantWeb presence coming out of DeltaV and the whole PlantWeb program.

And so we're being very aggressive relative to investing in that and we have the capability right now with a strong sales that we see in our instrumentation and device businesses to allow us to still expand margin and make that investment.

It's something we're going to be doing for the next couple years.

This is not something that's going to end end of '08.

We're basically building into significant new product type of programs for late '09 and going to 2010.

We've done this before and we will -- this was a big program for us and we're making the investment necessary to continue to win in this business here.

Just last question from me, your comment on not being happy about recent stock price for Emerson raises the question about buybacks.

You reupped the program.

Do you expect to be opportunistic here?

We have a very systematic program.

We will spend somewhere around $1 billion this year.

It could go up based on what's going on right now.

Clearly as the stock price goes down, we buy more.

As the stock price goes up, we buy less.

As you know, it's a very systematic program.

I'm not going to go out and double a program just because of a day or two of stock price.

I take a very long-term perspective as you well know, and I intend to be around here for a long time.

So I look at this as a unique opportunity for us rights now.

Thank you.

You're welcome.

Next question is from Mike Schneider with Robert W.

Baird.

Hi, Dave, hi, Lynn, how are you?

Hi, Michael.

Maybe we can stick to the growth rates.

The comment that you can sustain 5% to 7% growth even in this environment I think is admirable and sticks out relative to your competition.

So if network power is going to slow, are you anticipating at least in process you can maintain these low double-digit organic growth rates?

I think we could see 10% type of growth rate in process.

In my opinion, you'll see a little bit of our improvement in climate technology growth rate next year.

You'll see Industrial Automation, it will slow down a bit but still be pretty good for us next year.

Network power will still be helpful.

It's a mix going on.

Our emerging market business remains strong.

As you saw in the quarter I think it was around 17%.

As I look at next year, I think our emerging market, if I had to pick a number, around 13% to 15%.

So I still see even though the global economy is slowing, the mix of businesses and our presence around the world gives us a pretty good growth rate.

My visibility right now is probably about nine months out, nine to 12 months out and I feel reasonably comfortable on that 5% to 7% based on the order trend and what I see going on.

There's a lot of economic things that could happen with as I mentioned the geopolitical or even the political environment here in the US could change those things a little bit.

In Industrial Automation, I'm curious.

The business is growing high single digits, but yet orders are running [15% to 20%], even accelerated to [20%] in June, which implies you had an even bigger month of June.

When do we see those kind of growth rates flow through the P&L, or are the orders stretched out so long at this point that you're booking several years out now?

We're starting to book out beyond 2009 in a couple cases here.

It's driven around our power generation area.

And so you're seeing that happen.

The order rate in the power generation is continuing to be strong and that space -- both the process side and the power generation and support area, you're seeing a lot of long-term orders being placed to make sure that we've gotten the capacity in place and to make sure we have the material coming at us.

So that will be -- it's not going to be lumpy.

It's going to work its way out over the next couple years.

Do you actually see Industrial Automation growth accelerating on a quarter basis on the short-term.

No, I do not see Industrial Automation growth accelerating.

Right now it's had a very good year this year.

I think we'll have a very good fourth quarter.

But I would say at this pace, what I see right now, the underlying growth rate for Industrial Automation will be slightly less next year than it was this year.

Final question on Europe, last six months it's grown 3% and 1%.

Deceleration is definitely underway.

Are you anticipating that goes negative in fiscal '09?

No.

No.

I maintain that our underlying growth rate in Europe will in sales will exceed the US next year.

Yes, Europe has slowed down a little bit, but our businesses which are in Europe are being pushed into Eastern Europe and pushed into Middle East.

We'll continue to be okay.

It will be less but it will still be okay next year.

Okay.

Thank you.

You're welcome, Mike.

Thank you.

Our next question is from Nicole Parent with Credit Suisse.

Good afternoon.

Good afternoon, Nicole.

Just following up on network power, could you give us a sense in terms of orders and what you're seeing, the difference between precision cooling, computing equipment, and network power systems?

I would say that what I call the real reliable power business is more in the 12% to 15% range, and the telecom business would be closer I would say to 8% to 10% range.

And how should we think about those just longer term, I mean -- as we see network power decelerate, is it more on the telecom side?

I would say that you're going to see the reliable power trending down towards that 10% range.

I mean, I would say in the telecom stuff would move down in the I would say 6% to 8%.

I think it's going to move about the same, maybe plus or minus 1% delta between them, Nicole.

Not much different.

They're both going to come down a lot.

They react the same way.

Okay.

And knowing that complacency isn't in Emerson's vernacular, what do you tell [John Barrett] to do on the process side to keep the troops motivated, given how high margins are?

Keep growing and keep investing.

He's trying to figure out how to get to $10 billion.

That's the goal.

He's got to invest to get that $10 billion.

There's a lot of very important programs here.

You've heard me talk about before.

I'll be very careful about how far that margin will go.

We have to make sure we're investing for the long term and not worrying about a quarter or two for margin.

If we keep growing, we keep the productivity going as we have right now, we should continue to see margin improvement, but the mix will definitely hurt us as we continue to make those global investments for the solutions and service business.

Okay.

China PMI was weak in the last month, not too surprising I guess in light of what's going on over there.

Relative to your expectations as we roll through the next of the year, how do you think about China?

I think China will do okay.

As I've said, I think it will continue to step down.

I think you will see a slowdown as Olympic finishes, as the government sorts out where they want to invest.

I think you have to be very careful with or two months of PMI -- it's a fairly new number, so the quality of data is not that good.

There's a lot going on as the governments shut down industry to try to take care of the pollution.

So I think there's a lot of what I'd call non-business, non-economic things going on.

But I still feel good about China as I go out of this year.

The growth rate will be slower because we've been growing quite significantly there.

I still feel we'll be okay in 2009, but again a slower growth rate.

And again we have the benefit coming in 2009 of our climate technology efficiency standard changes and also the telecom investment in G3.

So that's going to roll out more in 2009 and 2010.

So there's a lot of good things happening that will probably give us still pretty good growth next year.

One last one on restructuring for this year, I mean, are we still on the $70 million to $80 million range or given the shifting macro environment is it a little bit higher?

I would say it's going to be $85 million to $90 million, Nicole.

Okay.

$85 million to $90 million, and we are pushing it pretty hard given some of the shifting.

When things slow down, we go for certain restructuring.

I would say you're going to see, as we move into the first half of next year, we have some restructurings we have to get done for the Motorola acquisition.

Jay's getting that teed up and working that pretty hard right now.

That's going to start happening in the first half of 2009.

And we have a couple other programs that we have in Europe right now in the early part of 2009 that will be hitting the P&L.

So we'll be strong in the second half of this year restructuring and we'll probably be pretty strong in the first half of next year and maybe it will slow down in the second half.

Thanks, Dave.

That's helpful.

You're welcome.

Next question is from Bob Cornell with Lehman Brothers.

Hey, man.

Hey, Mr.

Cornell.

I'm glad I wasn't the first -- you didn't yell at me for the stock going down.

I didn't yell at anybody on the phone.

John handled that well.

I always yell [genetically] and I thought I did very well not to swear at you guys.

Absolutely.

I get a gold star on that one.

But we're not finished yet, so I've got to be careful.

That's right.

You covered a lot of ground.

One thing as a follow-up, the embedded computing business you're restructuring, outside of the actual integration of the units, how are they doing in the sales, the profitability, the market share, new product development, streamlining that business, getting it ready for '09?

They're on plan right now.

I would say that as we've gone through and we've been getting out of certain businesses, we've slowed down certain sales in this area -- as we've gone and said we don't like that business, we don't like that type of technology or customer.

Jay and his team -- the Motorola team are doing a good job, relative to getting a large global business with businesses in Mexico and Malaysia and Germany and the US, getting that all sorted out and integrated.

So I would say they're doing real well given the complexity of this, and I think we'll see that business get in line as we move into 2009.

As we talked about when we first did the acquisition, it would take 18 to 24 months.

I still believe this is going to take 18 to 24 months.

This is more complex than the artisan acquisition that we did a couple years back.

And we have to be very careful here.

This is a higher level of technology.

Relative to new products, I'd say they're doing a very good job getting the new products on board at this point in time.

On climate, the business on the volume side is better than I thought, but margin is on the light side.

You said you got the hot weather, things are looking better.

Maybe you could flesh out the thought for the fourth quarter -- I heard the business about China and the prospective scroll, but just in the next few quarters, how does climate look on the volume side and profitability side?

On the margin side in this quarter, we got hurt because of currency.

We had a lot of currency benefits in climate in this quarter last year.

It was a little bit unusual.

They have a very large Thai operation, one of the more profitable facilities in Thailand.

And the Thai baht was moving around last year versus the dollar.

We got benefit from that and we obviously went the other way this year.

The other thing is, yes, we're getting price increases, but as I said we're not covering -- we're not getting margin.

We raised prices to cover material.

The material number is quite significant as you know in the compressor.

We actually have a negative margin impact from that standpoint.

As I look at the margin going forward the next couple quarters, I would expect the climate margin really to improve.

I think we've gone through, ignoring the restructuring which we're going to be doing some restructuring in the European business here in climate.

I would say as the volume starts coming back up, which I think I think it will start coming back up, and as European business gets better and as the Asia business continues the trendline, I would expect our margin to get a little bit better as we move into 2009.

Given the heat right now, I'm expecting a pretty good fourth quarter.

We had made this call earlier and I backed it off and now it's back on.

But clearly, there's very little inventory out there, Bob, at this point in time.

That brings my last question.

You mentioned with some emphasis the issue about getting the price staying green.

Where are you?

Some companies talk about putting prices -- increases through in big increments.

Others are gradual.

Then there's this whole business about purchasing in advance of price increases.

How are you going about it and where are you in getting the 2 percentage points of price you need to cover the material cost increases you referenced?

I would say right now -- Walter, would you say 75% there?

75% to 80% there?

80% there now.

We actually started -- back in May we flagged this, as you know, and we already had our plans in place.

We were going out May, June, July, and August.

So the price increase has already been set in those areas there.

We'll be going back out here late calendar quarter, early calendar quarter next year to get the final parts of this.

From our standpoint, you can only hedge for a little while here and we -- obviously helped cover us a little bit last year.

Right now, given the dramatic change in steel and all the other commodities, and it's not been easy to hedge this.

So we right now are looking to get this price into place.

But we do work it over time.

Sometimes it takes us six to nine months with a customer and we sort of share that pain for a while.

But we're in good shape right now.

We're okay for '08.

I would say 75% to 80% covered now going into 2009, and we'll be covered by the time we get started in 2009 by the end of the calendar year.

Final question for Walt.

On the corporate expense you called out the $11 million on the material hedge, but whether it was the $13 million of other accruals, environmental and other -- maybe flesh out what that is and what should we expect in the fourth quarter for corporate cost, corporate expense, rather?

We're not giving any specific forecast, as you can imagine, Bob, for the fourth quarter.

But I think Lynn in her answer identified when she was going through the slides that as you look at corporate and other, $11 million was for commodity hedging.

I'm just on slide 7 and $12 million for environmental costs and other items that netted down to the other would probably be net a couple million dollars.

So the big issue was clearly what I highlighted.

You have pluses and minuses as you look at mark-to-market on incentive share plans and everything else.

Just minor issues that tend to offset.

The two issues that we identified that explain it was the commodity hedging and the environmental costs.

I don't think the environmental will repeat again.

It's not anticipated to repeat at all.

It just as we reviewed it as we review it periodically, as Lynn said, we saw some things as we looked at assessing what environmental costs have done over a longer period of time.

Several years.

We wanted to make sure as we saw that we booked the estimated amount to get it correct at the end of the quarter.

Okay.

I got it, thanks.

The mark-to-market is the same thing.

All you investment bankers have the same issues these days.

Your numbers are a lot bigger than ours.

I noticed that.

A lot bigger than ours.

The rules have changed, Bob, since when I first dealt with you 30 years ago.

Yes, they have.

The size of the numbers have changed too.

Yeah.

A little bigger.

Okay.

Thank you.

Our next question is from Nigel Coe with Deutsche Bank.

Thanks, good afternoon, Dave.

Good afternoon, Nigel.

So obviously the double-digit growth in your US CapEx businesses was quite remarkable.

You talked about the weak dollar as a big factor there.

Is it the same in Europe, the flip side in Europe -- the reason for the disparity in the US and Europe is the strength of the Euro has done to impact those businesses?

I would say that our European businesses can be lumpy.

First of all the European business can be lumpy because of the process business, which has a tendency to be strong or weak depending on what's going out this quarter.

We are clearly seeing the impact of the Euro, the strength of the Euro on some of our Industrial Automation businesses and the climate technology businesses.

As that stabilizes and as we get all -- all the European companies get their costs in order and we look at what -- as the dollar strengthens a little bit, I think that's going to stabilize.

Eventually what's going to happen, the world will settle back down.

We'll stop getting the benefit of the weaker dollar in the US.

You'll see it shift back out into our other facilities.

So I see it a six or nine month type of structure.

I think the European competitors will get back in the game here pretty quickly.

And then Industrial Automation, do you sense you're gaining share in those businesses?

Because 8% organic growth is clearly higher than what we're seeing elsewhere.

If you take away the alternators from that mix, how does the rest of the business look?

I think we have gained a little bit.

As you know, it's extremely hard to measure market share in a 12 month or 6 month time period.

I would say our trend in the last 18 months have been pretty good and I would say as I look at our Industrial Automation business, we have done well here for the last two or three years.

And I would say based on that strengths of that business the last two or three years, I would say that's been a positive impact for our global market position, yes.

Hard to quantify, but definitely positive.

You can see it in the underlying pace of the business.

Okay.

And then if we take away the alternators from the mix, how does the rest of the -- how does the organic growth look ex power gen?

It's a little bit lower, but still better than I would say the underlying economics would say, drive it.

Finally on the climate, obviously this has been well discussed already.

Take away the weather and inventory situation, do you sense that US res has turned the corner or close to turning the corner?

No.

As I said in May, you will not see any bottom in US residential until late 2009 on a calendar year basis.

If I was a betting man, I would say maybe end of 2009 on a calendar basis.

Okay.

That's depressing.

Thanks a lot.

That's not depressing.

That's an opportunity.

Thanks.

Thank you.

Our next question is from Christopher Glynn with Oppenheimer.

Thanks.

Good afternoon.

How you doing, Chris?

Doing well, thanks.

A lot of good tangible complexion around the longer term outlooks and cycle trends for network power and process automation.

Just thinking about Industrial Automation there -- is there any way to gauge the same sort of outlook and apply it to that business?

Or is the cycle just too amorphous relative to the --

No, we do long-term trends.

We definitely do long-term trends in Industrial Automation.

We do it with and without the alternator business because the alternator business is very cyclical.

It can be very aggressive up and aggressive down.

I would say the long-term trend is still okay, but it's definitely -- as I said, it's going to go to the bottom end of the long-term growth, underlying growth rate, excluding alternators for next year, which means it's going to be down in that 3% range.

Alternators will help us next year but it's clearly -- we've had four -- maybe even five good years now in the Industrial Automation business.

And so it's in that later part of that cycle right now as I see it and if the US gross fixed investment environment both non res and res continues to weaken, as I think it's going do, you'll see that impacted on the non-alternator business for 2009.

The cycle is pretty normal there right now in the fourth or fifth year of the cycle, but it still should be positive for us.

That 3% or so, that would include price?

Yes.

Then how should we kind of think conceptually about the role of operating leverage at that business?

That business, I mean --

The margins seem to be a little stuck.

It's stuck because of the significant material hit there right now from the standpoint of what's going on.

It's just -- we are -- from the standpoint when you think about the material and the steel and the copper being used like alternators, it's huge.

And we've got the price in to cover the material inflation.

It's very -- you can't leverage it right now.

All our cost reductions and our new product efforts are going to offset the margin impact of the material inflation.

And that's the biggest issue we have right now.

They clearly keep working this, but -- this type of inflationary environment, it's very difficult to expand that margin because the cost structures are being used to offset the material impact.

Paul, anything else you want to say on that?

No.

Okay.

And any thoughts on the tale of the acquisition dilution at NP from the sort of 150 basis point level?

As I said, I think it's going to take us 18 months to digest that, so we're going to be into 2009 before we see the benefit of that.

I see no reason to say other than that now.

Lastly, just more broadly on the divestiture outlook and in particular, some scale to the impairments at the European Appliance business.

Would any of that have been recorded if you were keeping it?

Probably not.

I think we would have looked at that at year-end.

We look at all our assets and year-end and we would have had an impairment situation there at year-end.

Walter, you and I would agree on that.

Yes.

Based on how weak that business is and what's going on with the price cost situation there.

You obviously look at it a little bit finer when you go out in the marketplace and you have to sell an asset like that, but I would have said yes, we would have still had some negative impairments there.

Okay.

Thanks very much.

You're welcome.

Thank you.

Our next question is from Steve Tusa with JPMorgan.

Hi, good afternoon.

Good afternoon, Steve.

Just a question on network power.

I think you walked through the product lines.

Could you just talk a little bit more about the data center specifically and what you're seeing out there maybe in the US?

Data center businesses still remain strong.

Ex the financial marketplace, which has been very weak for some time now as you all know, our other data centers in the US and around the world have held up quite nicely as the corporation world has continued to work on the reliable and the redundancy and the growth -- a lot of the US corporations have had significant growth the last couple years.

And typically the data centers usually come behind that growth.

We always do it later to make sure we have it, the growth in hand.

So that marketplace is still doing pretty well for us.

Just from the acquisition environment here, could you just comment on what you're seeing out there, pricing, properties, as we move into '09?

I think I said down in EPG in Florida, I think the pricing environment for the large global industrial companies like ourselves and the other ones in our space, the environment will get much better as we go into the calendar year 2009.

I think expectations will continue to unwind.

They're still pretty high.

You always have to pay a very good price for quality assets and that's the way we look at it.

We're buying good assets here.

So I think the environment, as I told the Board today, will get better for us -- bigger opportunities as we move into 2009, but we're not in any big hurry.

We know what we want to get and we'll wait for it.

One more quick question, just on capital spending, you're putting up more capacity in Asia for climate.

Is it too early to get a read on how you're feeling about your capital spending for 2009, when you look out with the volumes softening just a little bit, you have plenty of capacity -- how do we think about that?

We would think about the similar level of capital expenditures as a percent of sales as in 2008, which we have said that right around a 3% number.

So gross of sales.

Yes.

Yes, I think so.

Thanks a lot.

If it were to cycle down, it'd still stick around that 3% to 3.1% range.

Okay, thanks.

You're welcome.

Thank you.

(OPERATOR INSTRUCTIONS) Our next question is from Steve Searl with Conning Asset Management.

Yes.

Hello, Steve.

You have a little over $400 million of debt maturities in the next couple months.

Any plans to come to market with that, or are you just going to take it out with your cash balance?

We have plenty of cash.

We'll look for opportunities typically at the end of this calendar year.

If the interest rate environment improves for us, we'll go out and do some long-term borrowing.

We have a very good ladder right now.

Our cash situation is in pretty good shape.

So I think we're okay.

Thank you.

You're welcome.

Thank you.

At this time, I'd like to turn the call back to management for any additional remarks.

Again, I want to thank everybody for joining us today.

I want to thank the global operating management and the corporate management of Emerson.

They did a great job this quarter, and the first nine months of this year.

I feel very good as I told the Board that we're going to have a very good close this year as we finish out 2008.

And I feel good about the position we're in right now.

The order pace is holding up.

And clearly, as we talked about in February, the changing economic winds are such that we have to stay very close to this.

And we will adjust our costs, we'll adjust where we do business.

But I feel good about where we sit right now on a very conservative basis.

With that I wish you all well, and thank you very much.

Bye.

Thank you, sir.

Ladies and gentlemen, this concludes the Emerson third quarter 2008 results conference call.

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