Enovis Corp (ENOV) 2014 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Colfax Corporation second-quarter earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time.

(Operator Instructions)

As a reminder, this conference is being recorded. I will now turn the call over to your host, Farand Pawlak. Please go ahead.

Thank you, Stephanie. Good morning, everyone, thank you for joining us. My name is Farand Pawlak, and I am Colfax's Director of Investor Relations. With me on the call today are Steve Simms, President and CEO and Scott Brannan, our Chief Financial Officer.

Our earnings release was issued this morning and is available in the Investor section of our website www.Colfaxcorp.com. We also will be using a slide presentation to supplement today's call, which can also be on the Investor section of the Colfax website. Both the audio of this call and the slide presentation will be archived on the website later today and will be available until the next quarterly call.

During this call, we will be making some forward-looking statements about our beliefs and estimates regarding future events and results. These forward-looking statements are subject to risk and uncertainty, including those set forth in our SEC filings. Actual results may differ materially from any forward-looking statements that we might make today. The forward-looking statements speak only as of today, and we do not assume any obligation or intent to update them, except as required by law.

With respect to any non-GAAP financial measures during the call today, the accompanying information required by SEC Regulation G related to those measures can be found in the earnings press release supplemental slide presentation under the Investor section of Colfax website.

In the interest of getting to everyone during Q&A, we'll ask that you limit yourself to one question and then one follow-up before reentering the queue.

Now I would like to turn it over to Steve.

Good morning, and thank you all for joining us today. We're disappointed in our second-quarter results. While most parts of Colfax performed well, earnings were below expectations due to soft demand in welding and pumping markets, as well as certain issues in fluid handling. On today's call, Scott and I will take you through our customary review of the business and its operating environment, and we will also address what we're doing to improve performance.

As stated in our release this morning, we reported net sales of $1.2 billion for the quarter -- for second quarter of 2014, an increase of 12% over the same period last year. This was driven by 18% growth from acquisitions, partially offset by a 5% organic decline and a 1% negative impact from foreign currency.

Revenues for our Howden business were in line with expectations; however, we continued to see sluggish demand in our welding and [pumping] markets, which resulted in revenues below our expectation for the quarter. Adjusted operating margins decreased to 9.1% in the second quarter, or a 180-basis-point decrease over the prior year, due to poor margin performance in our fluid handling business. Howden performed in line with expectations.

And a bright spot in the quarter was continued margin at ESAB, both sequential and year on year, despite lower revenue. We will discuss the issues at fluid handling in more detail later in the call.

Finally, our various acquisitions continue to perform in line with expectations. Last year's gas and fluid handling acquisitions are achieving their targets and integration is proceeding well. Victor, which we closed on April 14, is off to a strong start. Revenues and margins for the quarter were in line with expectations, and numerous integration activities are underway.

Now let's turn to our business segments. Sales for fabrication technologies were $630.4 million, down 3.1% organically versus last year. While we saw good growth in Asia and Russia, this was more than offset by lower-than-expected sales in Latin America, where sales declined to due to continued weakness in mining, as well as soft demand in the automotive and the offshore marine sectors.

As I mentioned before, Victor got off to a good start, contributing 19.4% growth in the quarter, in line with our expectations. While we are disappointed in ESAB's organic growth, we are pleased with the continued improvements and profitability the team has achieved, particularly in light of the weak top line.

Excluding Victor, adjusted operating margins for the second quarter were 12.6% as compared to 10.7% in the prior year, an increase of 190 basis points. This performance reflects the continued delivery of the $35-million cost savings we have committed to for 2014, and given current market conditions, we will accelerate the SG&A reduction plans we have in place.

As expected, Victor was dilutive to fabrication technology margins in the quarter, but we expect it to be accretive in future periods. While we expect fabrication technology sales to remain sluggish for the balance of the year, we will deliver our operating margin goals. In addition to the $35-million cost savings we have committed to for 2014, we will further leverage the tools of CBS to free up additional dollars to ensure we meet our bottom-line targets, while continuing to invest in programs to drive long-term growth.

An example of how the ESAB team is leveraging CBS to improve customer delivery while driving manufacturing productivity and cash flow involves our Vamberk site in the Czech Republic. By implementing the value stream mapping, KanBan, and standard work tools, this plant is now operating on a build-to-order basis with two of our largest automotive customers.

Historically, orders were generated by the customers' MRP and forecasting systems, which created wild fluctuations in material and production requirements. As a result, both our customers and ESAB carried excessive levels of buffer inventory. Now, after 14 different kaizen events, we've established an electronic pull system, which runs on a daily basis and delivers direct to the customer, bypassing any warehouse or distribution (inaudible).

Service levels are now at 100%, and inventory of both the customers and ESAB has been reduced by 30% due to our improved manufacturing flexibility. Our goal is to expand to the remainder of our customer base, which will eliminate many of our distribution centers and drive top-line growth by delivering world-class fill rates and lead times.

Now let's move on to the results for gas and fluid handling. Net sales for the second quarter were $568.9 million, an organic decrease of 7%, compared to $516.8 million in the same period last year. This was primarily driven by an expected decline of Howden, related to the percentage of completion accounting on certain large projects for which revenue was recognized in the first quarter.

On a year-to-date basis, Howden remains up 8% organically, in line with our full-year expectation; however, unexpected weakness in fluid handling resulted in larger-than-anticipated organic revenue decline. This was primarily caused by continued softness in our oil, gas, and petrochemicals, and power-generation businesses, as well as the lubrication services group.

Revenue from our acquired businesses at both Howden and fluid handling remains largely in line with expectations for the quarter. Orders for the second quarter were $593.8 million, up 24% compared to the prior year, with 19% coming from acquisitions and 5% from organic growth. Backlog remains strong at $1.580 billion for the quarter end.

All end markets experienced year-on-year organic growth in the quarter, with the exception of oil, gas, and petrochemicals, due to continued project deferrals and power generation, for reasons I will discuss shortly. We continue to be encouraged by increasing strength in marine and general industrial. As I always note, the timing of orders makes comparisons across sectors and periods a little difficult; this quarter is no exception.

Let's take a closer look at gas and fluid handling in markets, starting with our largest one, power generation. As you know, power gen has been very strong over the past several years, while performance this quarter was less robust. We continue to expect power generation sales to grow throughout 2014.

During the second quarter, revenues decreased by 15%, organically. Sales weakened, [reduced] new-build revenue in China mainly related to project timing, as well as slow after-market sales in the US. Orders were also weak during the quarter with year-on-year organic declines of 11%.

The fluid handling business was impacted by a downturn in demand for combined cycle power stations, for which we provide fuel transfer and lubrication pumps. Howden saw declines in its China SDR-related bookings, partially offset by increases in new build components, particularly air heaters. Additionally, the proposed CO2 regulations in the US caused utilities to hold orders while they digest the likely impact.

Despite the weak orders this quarter, we remain positive about the outlook for power generation, while fluid handling will continue to experience headwinds from declining combined cycle plant demand. Power plant investment remains strong in southeast Asia, and Howden's strength in that region positions us well to benefit. In addition, around the world, end-user interest in retrofits and improved energy efficiency remains strong.

With respect to the US, we believe the higher efficiency requirements resulting from the proposed CO2 regulations could ultimately drive additional demand for high-end stands and heat exchangers. However, until the rules are enacted, we expect the US market to remain sluggish.

Next is our second-largest gas and fluid handling market: oil, gas, and petrochemicals. Oil, gas, and petrochemicals performed below our expectations for the quarter. We continue to see deferrals of major projects across four geographies, particularly Asia and Latin America, with orders decreasing 26% organically. This decrease occurred in both our mid-stream business, which is primarily served by fluid handling and our down-stream business, which is primarily addressed by Howden.

Revenues were down 17% due to the continuing softness in our order book. However, we began to see some of our growth investments beginning to pay off this quarter, with our bookings' weaknesses partially offset by strong orders for our recently released dry steel screw compressor, as well as our recent CKD acquisition.

We believe dry steel screw compressors provide an outstanding growth opportunity, and we continue to make selective investments in these sorts of differentiated products. Given this quarter's performance in oil, gas, and petrochem, we now expect modest growth in orders and flat revenues for the full year of 2014.

Turning now to marine, which as you know is primarily served by fluid handling. Marine, which includes both our commercial marine and defense business, continues to perform in line with our revenue expectation, growing sales at [2]% organically.

Market conditions remain relatively unchanged. Strong demand for vessels serving the offshore oil and gas industry, with continued pricing pressure in commercial and marine, particularly from Japanese competitors. We had an excellent quarter for bookings, with organic growth of 85%, led by defense along with strength in offshore service vessels and continued success of our CM-1000. Our defense business received a $30-million order for valves, which are expected to ship in later -- at the end of 2014.

Last quarter, I announced our first CM-1000 retrofit order, and this quarter, I'm pleased to announce retrofit orders for another nine vessels with competitive (inaudible). The active valve control feature, which is unique to Colfax fluid handling, offers -- was the key to closing the order. We reaffirm our 2014 outlook for the marine segment and expect to see solid growth in revenue and bookings for the year.

Switching to mining, this end market has faced subdued spending for the past year and a half, partially offset by our 2013 Alphair acquisition. Revenue grew 12% organically in the quarter, albeit off of a very low base, and orders grew 4%. Although mining remains a depressed market, we have (inaudible) seen bright spots over the past several quarters.

This quarter, the large Australian order for a [tin and zinc line], as well as some additional copper projects in Chile. Given the state of the mining sector, we now expect to see revenue and orders decline over the balance of the year, with order declines being partially offset by Alphair's contribution.

Lastly, the general industrial end market. General industrial had another good quarter, with revenue growth of 8% organically and orders growth of 21% organically. While quarter-to-quarter comparisons can be volatile due to the timing of large orders, we were encouraged by the continued bookings strength. We saw significant activity in steel and cement, where SO2, NOX, and particulate standards are the same as the power sector, with steel plant de-sulfurizatoin being the most active area.

Revenue and bookings growth on the Howden side were driven by fan orders to Asian steel facilities, flowers for wastewater applications, and fans for locomotive. Fluid handling benefited from strength in diesel engines and non-residential construction, primarily low-rise elevator pumps. While quarterly trends are volatile, we expect growth in the segment over the balance of the year in both sales and bookings, but at a lesser rate than what we've seen in the second quarter.

Looking at profitability, adjusted operating margins for gas and fluid handling were 8% in the second quarter of 2014, down 550 basis points from the prior year. As mentioned, adjusted operating margins fell short of expectations for the quarter due to fluid handling performance.

Even excluding the one-time items that Scott will discuss in more details, the margins were below our expectation. There were several clear causes: first, while our higher-margin services business improved its performance versus the first quarter, results were still below our expectations. Second, we had several operational issues, in particular, poor performance in our European project business, as well as production and efficiencies on several large diameter pump jobs.

In light of poor performance, we've announced across-the-board reduction in SG&A in all fluid handling businesses and [regions], and are also reducing overhead within our manufacturing operations. In addition, during the quarter, we exited underperforming operation in our marine sector and are phasing out certain activities related to an acquisition completed in 2010. These actions resulted in a charge during the quarter that Scott will address in his remarks. It is worth noting that these reductions are in addition to our ongoing restructuring in the Netherlands.

Beyond the cost actions we are taking, the business will benefit from certain other margin improvements and fluid handling in the balance of the year. First, the majority of our Latin American service business is completed in the second half, resulting in much stronger margins compared to the first half of the year.

In addition, after a weak quarter four and quarter one, the order rate of our high-margin lubrication service business improved significantly during the quarter. We believe it will result in higher sales and profits in the second half.

Finally, the poor performance of our project business that I previously mentioned resulted from several large orders with extremely low margins. Since these orders were taken last year, we've improved our project estimation and quoting process to prevent reoccurrence.

In addition to the steps we've taken to improve fluid handling margins, in early July, we conducted a detailed strategic review of the business across all served segments to understand whether it's a performance issues -- if these performance-related issues relate to any market shifts or strategic changes. In short, aside from the near-term market trends I have already mentioned and the operations we have exited, we do not believe there is any -- there has been any deterioration in the strategic position overall potential of our fluid handling.

While fluid handling had a challenging quarter, Howden continued to perform in line with our expectations. The team there continues to work with last year's acquisitions to drive CBS and reduce purchasing spend. We held one-third of our president kaizen weeks this year at Howden's CKD site in Prague during the month of May. The future visions session for this kaizen was discussed in last quarter's call, and today we will discuss the results from the kaizen this past week.

The Howden President's kaizen was hosted by Howden's CEO, Ian Brander, and the executive team during the week of May 19. Four teams worked on the CBS lean conversion of the Prague site, and utilized the CBS tools and production process planning, lean line design, project management, and command [pull] to prepare the site for transfer of manufacturing from Western European sites to Prague in the upcoming month.

The four focus areas the [cellular team] were [repellers], shaft, and rotary machines, as well as engineering design and project management. The team was successfully able to create a single piece [cellular] manufacturing for repellers, shafts, and rotors, along with implementing the CBS project management process.

Results from the week were as follows: the kaizen event freed up 28,000 square meters of floor space, which will now enable us to transfer manufacturing from other higher cost Western European sites. Secondly, the team eliminated $1.1 million of cost through labor efficiency and productivity associated with the new cell layouts and in addition, [the team] lowered working capital by $3.3 million, while also reducing customer lead times from 60 days to 15 days once the full transfer is complete. An excellent example of leadership in action, leveraging tools of CBS to drive significant benefits for the customer and for Colfax.

Now I will turn it over to Scott to provide more details on the financials.

Thank you, Steve. Recapping the numbers for the quarter, sales for the second quarter were $1.2 billion, down 5% organically compared to the 2013 quarter. Adjusted operating income was $109 million, representing an operating margin of 9.1%. Fabrication technologies' adjusted margins were 12.2%, in line with expectation. Corporate and other costs were also in line with expectations at $13.6 million.

Excluded from our adjusted operating income, our restructuring cost of $13.5 million incurred in connection with the cost reduction programs, as well as a large one-time, non-cash tax benefit associated with the reversal previously established evaluation allowances against deferred tax assets and other (inaudible) related to fair value estimates made at the time of the charter acquisition.

As I introduced during last quarter's call, there are some one-off items which are reflected within our adjusted operating income. Starting with fabrication technology, transaction costs, and the reversal of fair-value increases to acquire inventory at Victor Technologies reduced the fabrication technology adjusted operating profit by $9 million.

We also determined that the use of SICAD 2 exchange rates to translate our Venezuelan net assets into US dollars was the most appropriate. While we have nearly no fab tech operations in Venezuela, the write down of our net monetary assets in Venezuela resulted in a charge in this segment of approximately $5 million.

These two one-off items reduced adjusted operating income by $14 million in the second quarter. Excluding these items, our adjusted operating margin in fabrication technology would have exceeded 14%.

In the gas and fluid handling segment, one-off items included the following: we exited a small business line in fluid handling in April, which generated a pretax non-cash loss on dispositions of approximately $4 million. The use of the SICAD 2 exchange rates resulted in a loss of approximately $1 million related to a small Venezuelan operation in fluid handling, and we took a $12.1 million impairment charge against the intangible assets of our Baric operation, which will be undergoing a substantial restructuring. Excluding these items, adjusted operating margin in gas and fluid handling for the quarter would have been 11%, which was still below expectations for the reasons Steve discussed earlier.

Interest expense for the second quarter was $13.6 million, which includes approximately $2 million of non-cash amortization, as well as the facility fees and costs of bank guarantees and letters of credit. Interest expense was favorably impacted by approximately $1 million, as we were temporarily in the lowest borrowing margins tier, saving 25 basis points on our entire credit facility borrowing. We will return to our typical tier in the third quarter, as our leverage increased when the Victor acquisition was funded in April.

As we discussed on the last quarter's call, we recognized a significant tax benefit in the second quarter, as some of our net operating losses, which were not previously reflected as assets in our accounts are now on the balance sheet with a corresponding tax benefit recorded in the second quarter. As explained previously, this is largely due to the significant additional US-based income from the Victor business. We have excluded this non-cash gain, as well as an additional approximately $22 million of other non-cash tax benefits associated with accruals related to fair value estimate.

The impact of Victor's operations on our adjusted results is to slightly raise our effective tax rate going forward, as US earnings now carry a full tax charge, which is at a substantially higher rate than the average of our other territories. However, this increase will not be as substantial in cash payments, as we do have an operating losses to shelter our US tax cash requirement.

Our effective tax rate for adjusted earnings this quarter was 30.7%. We anticipate an adjusted effective tax rate of approximately 29% to 30% for the balance of the year.

Backlog in the gas and fluid handling segment was $1.58 billion at quarter end. Our book-to-bill ratio for the second quarter was 1.04 to 1, which is typical for this quarter.

Turning now to guidance for the balance of the year. We have reduced our 2014 guidance from the ranges provided on last quarter's call for the following reasons. Sales in our fabrication technology segment remain below our initially expected range, and there is no indications of any near-term inflection point.

Secondly, the fluid handling business has also failed to achieve sales within the initially expected range, and as Steve mentioned, has fallen below our anticipated margin target. Finally, foreign exchange rate changes from the initial estimates will also slightly reduce the (inaudible) expected sales for the year.

It is important to note that there is no change in expectations for the Howden business, for Victor Technologies, or for the margin percentages in fabrication technology, despite the lower sales. There are also no significant change to guidance on items below adjusted operating profit.

As such, we have made the following revision: the range of expected revenue is now $4.7 billion to $4.8 billion. The range of expected adjusted operating profit from $485 million to $510 million, and the range for adjusted earnings per share of $2.20 to $2.35 per share.

While we do not normally give quarterly guidance, we expect the pattern of revenues and profits in the second half of 2014 to be somewhat different than previous years. In particular, the Howden backlog we expect to ship as a percentage of completion revenue recognition that results in a larger-than-typical fourth quarter.

In addition, completion of the service contracts at the Sicelub acquisition that we closed late last year is similarly skewed towards the fourth quarter. As a result, the fourth quarter adjusted earnings per share is expected to be approximately 25% higher than third-quarter adjusted earnings per share. Please refer to the slide deck for additional details on the guidance.

With that, I will turn it back to Steve.

Thank you, Scott. As we have noted throughout this morning's overview, we are excited about the ongoing improvements occurring at both Howden and ESAB. These businesses continue to drive significant margin gains, while also making the right investments in people, products, and services, which will clearly drive long-term sustained organic growth. In addition, their integration of recently completed acquisitions is on track versus expectation.

While this was a disappointing quarter for fluid handling, we believe the issues experienced in this quarter are manageable and that the countermeasures noted above will improve our cost structure and ongoing margin performance. In addition to these actions, we have made two key additions to our fluid handling leadership team.

First, on Tuesday, we announced that Darryl Mayhorn will be joining the Company as the new President and CEO of our fluid handling business and Senior Vice President of Colfax. Darryl comes to us from Rexnord, where he was the President of their Rexnord Aerospace Group and the Chief Human Resource Officer of Rexnord Corporation. Prior to joining Rexnord, he was the Group President of the Aerospace and Defense Group at Danaher Corporation, and before that, he held several leadership positions within Eaton Corporation.

We are pleased to have an individual with such a deep industrial background leading the team. Coupled with his demonstrated ability to drive continuous improvement and develop talent, Darrell will be an invaluable to the fluid handling business as we address the current performance.

In addition, Ken Fairleigh joins our lubrication services business as Vice President of Sales and Marketing. Ken is a proven business leader with a strong track record for delivering growth and commercial process excellence in commercial markets. Most recently, Ken was President and CEO of Paragon Technology, a provider of [capital expense] to the power industry. Prior to that, Ken hones his sales and marketing skills at top industrial companies such as Danaher, GE, Square D, and Rexnord.

In summary, while we are not happy with the quarter, we remain very positive about the long-term outlook for Colfax. Howden continues to meet its targets. ESAB continues to improve margins and strengthen the business, and the structural and leadership changes we are making in the fluid handling position it well for success.

In addition, we continue to focus on recruiting and developing talent, giving priority to key roles that drive performance. Likewise, we remain active on the M&A front and have a strong pipeline, though our top priority remains, as always, delivering strong performance from our core business.

With that, I would like to open up the session for Q&A.

(Operator Instructions)

Walter Liptak, GHS.

Hello, thank you. Good morning, everyone. I wanted to ask about fab tech, and I understand the outlook is that you are not expecting any inflection. What is happening, do you think, with the overall market for it to be so weak? Some of the macro numbers are getting better, maybe the industrial economy is going to get better in the second half.

From our perspective, we do believe that we are seeing an improvement in the overall fabrication technology industry. It's been slow relative to the overall economic growth, because we believe that some of the pockets that are most important to our performance in welding have been slower to rebound.

So if we look at the different regions around the world, we see very different trends. For us, in North America we experienced steadily improving order rate really since the February timeframe, but we have yet to see positive growth resulting from the improvements. The most significant weakness that we've seen here has really been around in marine and offshore, railcar, and off-road production has improved. Pressure vessels are up slightly, but generally, not enough to really reverse the declining trends we have seen in the past; improving, but not a positive trend yet.

In South America, we were down during the period. And there, we think that automotive has been weak, as well as large component manufacturing, which ties to the welding industry -- or the mining industry. We believe that in South America those two verticals are what is driving the slower growth or no growth.

In the European market, our business is down sightly from an organic standpoint, and again, most of the key end markets have slowed -- shown slight improvements, but we're not seeing growth at this point in time. For us in Russia, Eastern Europe, the trends have been very, very positive. In fact, Russia has continued to build in momentum, and I think that is tied to the investments in oil and gas that we are seeing across that region.

In the Middle East, we have also seen an improvement here. Again, we think oil and gas for our part of the business has helped to improve in these key regions. I guess the last one for us would be India. We are starting to see some signs of growth here. There has been a renewed commitment to strengthen the infrastructure, so we think that industry in India will begin to improve with some of the renewed commitment to the markets.

Does that help to give you a sense of both the industry and where ESAB has fared on a region-by-region basis?

Yes. Thanks for the color. Given the outlook for no inflection, I take that to mean the July -- you are seeing the same trends that you saw during the quarter.

Generally speaking, yes.

Okay. If I could ask a quick second one; in your power gen business, with the orders down, it sounds like it's largely US. I wonder if you could break out what the US orders -- how much they were down? And what do you think the timing is, that upturn that you alluded to?

The orders down are -- the US is certainly one of the contributors. But I think as Steve said in his remarks, China is also an area where we've experienced an order decline. We don't break the order of information out by territory

Okay, alright, I get that. What is the timing of the turn in either the US or China?

We've talked at length in prior calls about China. The SCR of order pattern is running its course over the balance of the year. Steve talked a little today, and we have talked previously, about the projects that we think will increase demand in other areas to make up for that.

The US is much harder to tell. People are still digesting the call for regulations that haven't even been published yet. At this point, it would be difficult to provide a precise answer to when the segment will turn in the US.

The way we've been thinking about it, Walter, is that, as we've said on prior calls, if you look at China and SCR and new build activity for Howden, that is coming to an end, as Scott mentioned. We had anticipated that North America would, over time, continue to offset that. So we'd see a moderation of the decline in China by growth in the US, and that has happened exactly as hoped. In fact, our share of that has been probably greater than what we anticipate in terms of winning the opportunities.

This new discussion around the CO2 emissions, which calls for a 30% reduction in emissions below the 2005 levels, clearly that is going to slow or stop investments in some of these smaller plants that are complying with SCR. However, in anticipation of that, as you know from prior calls, we are aggressively focusing on Southeast Asia where new power and new power generation construction is very high. And we have been also intensely focused on expanding our presence in the after market. Those two areas, in particular, are two examples of how we are offsetting the anticipated slowdown in China and the slowdown here in North America.

Okay. Got it. Thank you very much.

Nathan Jones, with Stifel

Good morning Steve, Scott, Farand.

Good morning.

Good morning.

If we could just go to fluid handling for a minute. Obviously, lower margins and lower organic revenue growth outlook. Can you talk about what changed from last quarter to this quarter, in terms of your organic growth outlook? And then, if you could elaborate a bit more on the execution issues that you encountered during the quarter and what countermeasures you are taking.

I will take the organic growth outlook, and I will let Steve comment on the execution issue with that. We continue to see weakness in power generation. As we discussed today and on some earlier calls, the combined cycle of power generation market is not strong, and that is affecting our pump orders in revenue.

Secondly, as we have stated probably over the last -- at least the last year, the oil and gas market, while there is a lot of activity in terms of quoting, a lot of activity continues to be deferred. Those are the two reasons for taking down the revenue outlook, given where we are in the year, assessing the backlog we have in hand, we felt it was appropriate to revise our outlook on organic growth.

From an executional standpoint, Nathan, the two key projects that were mentioned in the script were also tied to the executional issues from a manufacturing standpoint. This is a part of the business that we entered several years ago, and these were two early orders that were finally locked in, in 2013 -- the early part of 2013 and really go all the way back to 2012.

These particular project orders were new to the Company, both in terms of complexity, size, and technical content. And as we went through the final assembly and production of the product, we really had a significant issue in a couple of our European operations relative to the cost.

And so, we think we've addressed that for the future part of the business, and we believe that we've addressed both manufacturing and refocused those key areas of the project segments that we want to compete in based on our capability and also based on the margin potential. So we've begun taking on a process of refocusing the resources that we put into this space, trying to concentrate on those projects where we have the greatest value, both in terms of technology and material content.

Are there any similar projects that might be new to the Company, where you might have an execution issue here in the future? Or is this a one-off thing?

We have got a couple more of the projects, but those projects have been incorporated into the forecast going forward.

Okay. Sorry, go ahead.

We think we have addressed the project management system around it, as well as the quotation process as well.

So there may be execution issues, but you've already reflected that in your guidance.

Yes, we have.

Correct.

Okay. You did say that you are still expecting oil and gas order growth for 2014? Given the soft first half and the fact that you're talking about these things continuing to be pushed to the right, can you give a little bit more color about how you get comfortable that you can still actually grow oil and gas orders overall for 2014?

I think are two reasons: one, the comparisons get much easier, which makes it easier to accomplish, given that the market has -- this deferral situation is not recent. Secondly, we have actually experienced some recent, including early in July, a couple of very large orders have been booked here between quarter end and the call here this morning, and a couple others that we believe are close to execution. We actually see a few bright spots. We tried to be -- temper that in the comments, that a few of these bright spots will hopefully bring this up to a net positive, not a huge improvement, but at least it will hopefully reverse the trends we have seen over the last three or four quarters.

Okay. Thanks very much, guys.

Mark Douglass, Longbow Research.

Good morning, gentlemen.

Good morning.

Scott, can you address the fab-tech operating margins that you said would ex the one-offs? You're going to SICAD 2, some initial charges on inventory, right, on Victor? But you would be over 14% without those, is that what you said?

That is correct.

So what are you thinking in the back half, assuming fab tech muddles along here, similar type of run rate on the quarterly sales, what are you thinking as far as margins? Can you push it to over 14% or do you see it falling in the 13% range?

I think, as you know following the welding industry, Mark, that the second quarter is typically the strongest quarter for welding. So I think this may be the apex of the margins, but we certainly would expect to be able to be close to this for the balance of the year.

Okay. Great. That is helpful. And then looking at the sales and order of volatility in the gas and fluid handling, is it -- are you finding ways to improve your ability to forecast? Obviously, some of these big projects get pushed into other quarters, but is that part of your -- how you are addressing certainly some of the problems in fluid handling?

I think that clearly, we are trying to dig into improvements in forecasting process, which we have done. The biggest challenge we have had is really around oil and gas, where we have seen these significant orders push out. And then tend to be decisions reached fairly late in the process, obviously, relative to expectations.

To give you an example, in Latin America, we saw a push out from PDVSA. We've seen a shift from Hess in southeast Asia and Lukoil in Russia, so it's been fairly broad-based. What we've tried to do in managing our week-to-week opportunity funnels as a sales organization is to really dig into far greater detail by customer in terms of where we are in the decision-making process. And we think that we have reflected a more conservative posture in the balance of the year in the forecast, and we will see as we go forward. But we have driven and retrained all of our salespeople across the Company in the value selling concepts and also in managing simply around the oil and gas funnel.

I would just add that the funnel continues to grow in overall size. The opportunities that are being awarded, Mark, we look at that and believe that we are maintaining share of those orders that are being [let] or acted upon. So we don't think it is a case where we are losing share. We do know and recognize that we have got to get a lot better, a lot closer in being able to forecast these push outs.

Thank you.

Thank you.

Jeff Hammond, KeyBanc Capital Markets.

Good morning, guys.

Good morning.

To come back to the organic growth rates, I think coming into the year you were thinking two to four for fluid handling and down one to plus two for fab tech. Can you give a sense on how you're thinking about those now to understand the order of magnitude?

Sure, for Howden, which was for 4% to 6%, we have no change. So as I said in the prepared remarks, Howden is performing as expected. We have a very solid look at the balance of the year through the backlog and expect no change for the Howden business.

The range we've put around both fluid handling and fabrication technology correlates to how they perform through the first six months of the year and welding is down 3%, and fluid handling is down something very, very close to that. That's sort of what we put the range around for those two businesses. As I mentioned, FX is a small contributor to the decrease from the initial guidance, if you are trying to reconcile the total number.

Then you talked about some potential headwinds in Howden around the CO2 and uncertainty and some of the China new build. How should we think about that in terms of the out year or the longer-term growth rate as some of those play through and visibility into next year?

I think as Steve said, we feel very confident we have a whole list of other areas that will make up for the expected roll-off of the SCR project. Some of that US business will undoubtedly get canceled, but a good portion of it will go ahead. It will probably just be deferred. But we think we have enough things in the pipeline to feel confident with a strong growth rate for Howden in the next 18 months; we don't have visibility much beyond that. But we haven't seen anything that would change our view there.

Okay, and then last thing on -- similarly, I think you said ex items, your margin run rate in gas and fluid was 11%. So how should we think about building out the second half of the year relative to that first half run rate?

That was ex the non-cash items. Some of the other items that Steve talked about, the large diameter pump projects, as well as the systems businesses in Europe, including the one we took the impairment on, those depress the margins in the second quarter. We expect significantly better margins in that for the second half of the year.

Okay. Thanks guys.

Brian Konigsberg, Vertical Research Partners.

Hello, good morning.

Good morning.

Following more on power with Howden, you're talking about the CO2 regulations in the US, which I can understand is giving some people pause. But at the same time, actually the cross-state rules, the CSAPR rules were reinstated by the Supreme Court. I believe it was in early May. I believe that is going back to the EPA for a reshuffling of the regulations. But wouldn't you anticipate that to actually spur demand for SCR, as well? Or might that have been absorbed by the [naturals] that had gone into effect already, and maybe there's not much incremental required?

The best way to answer that would be that the CO2 rules may cause people to close plants that they were otherwise planning to put SCR applications in. So as we've tried to say both in the remarks and in response to earlier questions, we believe a good portion of this US market for the reasons you stated will still come to fruition. People are being cautious studying the CO2 issue, determining whether some of these smaller plants might need to be closed. And as Steve said, we expect that to have an impact on our short-term order rate and in the business.

Okay. Got you.

One of the things that we've talked about before is that with the -- and I think that is your point, that with the new legislation that is pending, once that becomes law, we believe it will be a significant bump for our business at Howden. It is a question of whether or not that hits in 2015 or 2016.

In the meantime, our challenge is to leverage the tremendous investment going into southeast Asia, a new power facility, and also in the after market, which is what we have been pretty successful in being able to do.

Understood. Thanks. And separately, can you talk about pricing, especially within the oil and gas on fluid handling side? So you are seeing push outs. But generally, it seems some projects are starting to come to market, and you could see some more activity, but you also have a lot of competitors that are looking to absorb excess capacity. Maybe talk about what trends you are seeing, and is that a concern in anything baked in your guidance?

What I would say to you, looking at our margins in oil and gas, without going into the detail of it, I can tell you that picking up on your specific question, our margins in oil and gas have actually improved in the quarter. They are up relative to the first quarter and up relative to the prior year. So we have continued to benefit from some of the activities in manufacturing in a better process around oil and gas. So our margins have been hanging in there, in fact, and improved.

Okay. Thank you very much.

Joe Ritchie, Goldman Sachs.

Hello, good morning, everyone.

Good morning.

On the gas and fluid handling side, I wanted to ask a question about margins. It was helpful to get the explanation that ex one-offs, it was roughly 11% for the quarter. But then, Steve, you discussed, clearly, some other issues that occurred this quarter that impacted the margins. On a year-over-year basis, it was still down 250 basis points.

What I'm trying to understand a little bit better is the quantification of some of those items. And so, perhaps, if there is any way to quantify how much the European project business execution issues impacted the quarter, and also the manufacturing inefficiencies, then that would be helpful.

I think that's probably a level of detail that was beyond what we would discuss for competitive reasons. I think we will leave it at those are significant issues that are issues of the several million dollars each type of variety. But I don't believe we'd like to quantify them.

I guess maybe said another way, more broadly, would margins have been close to flat or potentially up this quarter, absent those issues, or would margins still have been down on a year-over-year basis?

I think margins would have still been down on a year-over-year basis. We made some other comments about some pricing pressure in the marine business, as well as our services business, while better than the first quarter was not as strong as we had hoped. Margins would have still been down, but not significantly if you adjusted for the large project jobs and the European system business.

Okay. And then one follow-up question. On the commentary that you made earlier regarding embedding potential additional issues from other projects into your guidance for the remainder of the year, is it possible that some of these other projects will then spill into 2015? Or is this an issue that you feel like you have got pretty well mitigated for the 2014 timeframe?

I think it is all contained within 2014.

Okay. Great. Thanks for answering my questions.

You're welcome.

Andrew Obin, Bank of America.

The first question, if I look at your end markets, Brazil seems to be a problem. Russia did really well, but I think there is a real question mark as to what is going to happen in the second half. We're having some execution issues that we need to fix going into the second half. What does it mean in terms of your bandwidth to continue to do M&A over the next 6 to 12 months?

Again, what we tried to explain to you is that if we look at our ESAB business, we think the business is performing very, very well. We believe that the order rates, although not showing positive growth year on year, we are seeing some signs of improvement in virtually every region around the world for the business.

The integration of Victor, a fairly large deal just completed, is on track and certainly in line with what we had hoped, leveraging that business exactly along the path that we had communicated.

From an ESAB standpoint, we believe that we are doing very well. In fact, we are very much on track with the targeted long-term operating income goal of 13%. In fact, we feel very confident about delivering that on time or even a little early. We believe the business is in very good shape. We also believe that with the new product commitment that we have made and what will begin to hit the market in the fourth quarter, early first quarter of 2015, hopefully, we will begin to see organic growth in this space.

I would also say that as difficult as it is, we can also look at our market share, and we know that if we look at the history of ESAB, we have gone from losing market share when we acquired the business, stabilizing, to now regaining lost market share, particularly in the European arena. We feel very good about the business, the team leading the business. And just to comment on, as we look at the trends in Russia and Eastern Europe, we're actually pleased with the way that the business has performed and our ability to compete there, both its margin and top-line growth and being a key player in manufacturer there probably helps significantly as well.

We are very excited about the opportunities at ESAB and Howden; it goes without saying. Howden continues to grow on the core business. The core margin in the business performed very nicely this quarter. Acquisitions were in line with what we expected, and we believe that the marketplace for acquisition on both of those businesses remains just as attractive today as it did a quarter ago, a year ago, or in line with our expectations when we began the mission here.

I would say in broader terms, we believe that acquisitions will continue to be a very important part of our strategy. Dan Pryor has added a couple of new leaders to the business, so we are focused even more intensely on driving acquisitions. At the end of the day, I have worked with Dan, and we push aggressively to look at deals across all three businesses. And we are constantly thinking through together with our Board where we want to make those resource allocations over time and what are the deals that are going to give us the greatest return for our shareholder, and where do we feel we have the greatest chance of being successful? And that would be relevant for all three businesses.

In fluid handling we have a new leader coming in. I'm sure he will get his feet on the ground very quickly. The plans that we have put in place we think improve those margins in a 6- to 12-month time frame. So we see fluid handling as a business that will be back on track within a reasonable timeframe.

So we look at acquisitions and the possibility of acquisitions on all [fronts]. We do have to make sure be above all else that we're running our core business well, and we will make sure we strike that balance as we consider where we allocate our resources.

That makes sense, and Darryl seems like a great hire. A follow-up question: oil and gas. If I look at Emerson's process orders, they have actually been quite good. Dover printed numbers today, not really indicating any particular weakness. They are pretty big on downstream. Do you think -- how much of it do you think is Colfax-specific on oil and gas, and how much do think you really are seeing this air pocket in terms of oil and gas CapEx for now? In particular, you guys are in Brazil, so I guess that impacts you disproportionately.

As I said in the comments, for us, we track in this vertical market very carefully and closely all the orders that are relevant in the space that we are competing in. As I've said before, our funnels have generally been on the increase in terms of size, but the speed with which those opportunities are moving through the funnel has slowed significantly. The awards, when they are made, we look at it on a project by project basis on every monthly operating review. Our batting average is very consistent with what we have seen in the past, so we don't believe we are losing share. We do believe that in our space within oil and gas, we've seen very important orders shifting out.

I think on the compressor side, you would not get the feedback from our peers there that you've quoted for the flow side. There is continued deferral on the compressor side, and that's pretty consistent across the whole market.

I appreciate it. Thank you very much.

Jamie Sullivan, RBC Capital Markets.

Hi, good morning.

Good morning.

A follow-up on the fluid handling business, the projects that you mentioned that are impacting the margins where you've had some challenges, are those complete or when do those get completed?

The projects that we recognized today were complete and shipped in the quarter. As Scott mentioned, we have one or two others that have been included in the guidance, and they should run their course by the end of this calendar year.

Okay. Thanks. For the 4Q waiting, you mentioned Howden and Sicelub -- the visibility there, what kind of confidence do you have that you will see that ramp going into the fourth quarter?

I think we have as high a confidence as we possibly can, because we have new orders in hand in those businesses. We have high confidence.

Okay. Great. That is all I had. Thanks very much.

John Inch, Deutsche Bank.

Good morning, everyone. What did you see in Western Europe as a whole? Could you give us a little bit of color, perhaps, in terms of how the quarter played out and what you are seeing today?

From, largely from a standpoint of ESAB, our fabrication technologies group?

Yes. That is fine.

Within ESAB, as we think about Europe, and if I were to focus specifically on Western Europe, we've seen the business, again, the level of decline has certainly moderated, and overall, it's improved. What we can see in Europe, as you know, we do have a chance to look at market share in that arena, at least a fairly good surrogate. And we've seen market share gains that occurred in the fourth quarter, and we are confident that that happened again at the end of the first quarter, so we believe that that is improving. We think we are gaining traction, and we believe we are in a position where hopefully in 2015, we will start to see that market rebound for ESAB and we will see growth.

But you are right, if you look at Western Europe where we've got such a significant share, the trends are very different. That's been down in the low single digits; we've seen that trend improve just slightly quarter to quarter. Very different, as you point out, than what we see in Russia and the former Soviet Union, where to be honest, our growth there, we're up in the very high single digits. In fact, John, it has picked up momentum since the first quarter.

It's impressive. Did the market, Steve, for welding in Western Europe, do think the market -- you give pretty good share data, did it deteriorate in Europe throughout the quarter?

We don't think the rate of decline deteriorated any further than what we had seen in the recent past.

Okay so that's encouraging. Want to ask you just go back to -- I think Andrew asked the question about the cadence of M&A. I don't know that I really understood the answer. My question is, if you had a couple of operational issues, why wouldn't it make more sense to simply focus internally for a little while and take a pause in M&A and then come back to M&A later, just to get some of these internal things cleaned up or fixed? Or do you feel like you have got the bandwidth to do both simultaneously?

Sorry about the confusion in the response, my apologies. At the end of the day, we've got three very attractive areas for investment from a M&A standpoint. What I was trying to get across to, I believe it was Andrew, that we are in an outstanding position to continue acquisitions in Howden as well as ESAB, and we are focused on correcting some of the operational issues at fluid handling.

But keep in mind as I said, those issues from our perspective were fixed within a 6 to 12 month time frame. It is not a moratorium on acquisitions for fluid handling, but they understand they need to get the core business under control to really be an aggressive push here.

That make sense. Steve, lastly -- or Scott, how exactly are you making up the fab-tech profit with the worst top line? You mentioned CBS, but it is a little nebulous. Are you drawing from what would have been conservative guidance cushion, or is there some obvious area where you are drawing this?

I think that it really -- we really do leverage the tools of CBS as shared in the example there. The other thing is that Clay Kiefaber and his team that lead the business had been unbelievably aggressive about cutting cost and overhead where it didn't make sense and redeploying a portion of those savings into investing for the long-term growth, but also improving profitability. The guys are tracking in line or, as you can see, ahead of schedule in terms of cost improvement.

It is not just SG&A. You can look at what we have been able to do on the procurement side, which we will share with you in September at the ESAB day. I think you can see that they are making wonderful strides on many different fronts, freeing up ways and being able to improve margins that way and also in putting it into top-line growth, which you will see in the new product activity from Clay and Ken.

That makes total sense. Thank you very much.

I'm showing no further questions. I will now turn the call back over to Farand Pawlak for closing remarks.

Great. Thank you again for joining us, and we had look for to updating you on the next call.

Ladies and gentlemen, that does conclude today's conference. You may all disconnect and everyone have a great day.