伊頓 (ETN) 2011 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to Eaton Corporation's second-quarter earnings call.

At this time all phone participants are in a listen-only mode.

Later there will be an opportunity for your questions, instructions will be given at that time.

(Operator Instructions) And as a reminder, this call is being recorded.

I'll now turn the conference over to Senior Vice President Investor Relations, Don Bullock.

Please go ahead.

Good morning.

I'm Don Bullock, Senior Vice President of Investor Relations.

Welcome to Eaton's second quarter 2011 earnings conference call.

Joining me this morning are Sandy Cutler, Chairman and CEO, and Rick Fearon, Vice Chairman and CFO.

As has been our practice, we will begin today's call with comments from Sandy followed by a question-and-answer session.

The information provided on our conference call today will include forward-looking statements concerning the third quarter 2011 and full year 2011 net income per share and operating earnings per share, third quarter and full year 2011 revenues, our worldwide markets, our growth in relation to end markets and our growth from acquisitions.

Those statements should be used with caution and are subject to various risk and uncertainties, many of which are outside the Company's control.

Factors that could cause actual results to differ materially from those in the forward-looking statements are set forth in today's press release and related Form 8-K filing.

As a reminder, we have included a presentation on second-quarter results, which can be accessed on the investor relations webpage.

Additional financial information is available in today's press release which is located on Eaton's home page at www.eaton.com.

At this point I'll turn it over to Sandy.

Sandy?

Thanks, Don, and good morning, everyone.

Thanks for joining us this morning.

We're completing obviously a very strong second quarter which for us signified a strong first half and what we expect to be a record year in both sales and profits in our 100th anniversary year.

I'm sure you've had the chance to read our press release, operating earnings per share of $0.97, up 47% versus last year, $0.04 higher than the midpoint of our guidance that we provided in our April call, and with the tax rate in line with our guidance that we did provide in April.

Net income per share was also $0.97, up 47%.

Sales were up some 21% at $4.09 billion, confirmation of a strong continued momentum in our markets.

The markets were up some 12% from a year ago in the quarter, 26% of our sales came from developing countries and the year-to-year increase in those sales from developing countries were some 30%.

In our quarterly segment profit margin of 13.9% was an all time record and obviously underpins what has been our full-year guidance of 14% for segment margins, as you'll see as we go through this packet we're raising it to 14.5% for the full year this year.

If we turn to chart number 4, titled comparison to second quarter guidance.

Obviously the midpoint of our guidance that we provided in our April conference call was $0.93.

We saw just marginally lower markets than we had expected that accounted for about $0.01 and then improved performance across our operations of $0.05 and that's what led us to the $0.97 reported operating earnings per share, up just over 4% versus the midpoint of our second-quarter guidance.

If we move to chart 5, you saw many of these figures obviously in the press release.

Our sales were up some 8% from the first quarter, which we think references the continued strong momentum in our marketplaces.

The 13.9% operating margin does encapsulate the roughly $25 million of uncovered commodity costs that we had shared with you in the April conference call that we expected during the second quarter, it came in very much in line with that, and that's about six-tenths of 1 point.

Market growth of 12% we outgrew by about 2 points, acquisition revenues accounted for 1 point, and then ForEx accounted for about 6 points.

And that's the overall elements that led to the 21% increase in year-to-year sales during the quarter.

Moving into the individual segments, if we move to chart number 6, the Electrical Americas segment.

Sales of just over $1 billion in the quarter, up some 7% from the first quarter, 16% year to year, strong, we think, revenue performance.

Market was up about 10%, and you can see the elements of outgrowth acquisition and ForEx.

A 14% operating margin in the quarter, bookings up some 9%.

The great strength we're continuing to see is more on the industrial side of the marketplaces.

We believe the US nonresidential markets are close to a bottom and that's very much reflected in the bookings that we're seeing here during the second quarter and the fact that our bookings year to year are up quite strongly in the nonresidential marketplace.

And then we were pleased to complete the acquisition of a small business in Columbia which strengthens our business in South America.

Absent the uncovered commodity costs that I referenced, the margins are at about 33% incrementals, very much in line with our full-year guidance and that's not including FX and acquisition.

We are really quite pleased with the pricing that we've been able to put in place and are very confident at this point that the uncovered commodity costs which we've experienced during the first half will not be experienced (inaudible) the second half and that obviously is implicit in our margin guidance full year for this segment.

Moving to chart number 7, titled Electrical Rest of World.

Overall volumes up some 18%.

You can see the strong impact of ForEx had in the quarter of 13%.

Since the first quarter, or comparing the second quarter to the first quarter this year, revenues up some 6%, overall margin of 9.9%.

Markets up 6% around the world.

Looking at the bookings, they, however, declined by 4% in the second quarter compared to a year ago.

We referenced here the large drop in solar inverters that was really driven primarily by the reduction of feed-in tariffs that saw this market drop dramatically this year versus a year ago.

If you take out the drop in the solar inverters and some exiting of low priced product lines that we decided to exit as well as the fact that we booked a couple very large projects during the second quarter of 2010, the overall bookings would have been more on the line of 6%.

So, we really see this weakness in the solar market as being fairly transitory.

And then we were very pleased to complete the acquisition of the ACTOM low voltage business that we had announced earlier in the year, we actually did get it closed during the quarter.

Once again if we look at the margin performance in this segment that absent the commodity costs, uncovered commodity costs, and the currency-caused FX lower margins, the overall margins would have been about 33% incremental, very much in line with our expectation.

Moving to chart 8, the Hydraulic Segment.

Obviously this segment is continuing to have a terrific year this year, sales up 28% on an 18% market growth, all time record margins 16.5%.

As a result we're increasing our full-year guidance in this segment.

Bookings continue to be very strong, up some 20%.

And we're very pleased with both the closing of the Internormen Technology group, as well as the announcement of our deal on the Begerow business, both of which will significantly enlarge our filtration business, as we pointed out in our release.

If we move to chart 9 which is the Aerospace segment, sales up 11%, stronger than market, you see the progression quarter to quarter where our second quarter sales were up 5% from the first quarter.

Margins at 12.2% compared to the 11.6% in the first quarter, very much in line with what we had indicated when we told you at the end of the first quarter that we expected that the higher development costs that we had encountered in the first quarter would continue through the second quarter this year.

After market bookings up 7%, stronger on the commercial side than on the military side.

And bookings declined overall by about 1% in the second quarter compared to a year ago, really driven by the military market weakness that, obviously, I think you've all been reading about.

If we move to chart 10, the Truck Segment, very strong continued surge in sales up some 37%.

Second quarter was 17% higher than the first quarter this year, strong margin performance of 17.8% that compared to the 15.6% in the first quarter.

As a result of this strong performance, we're raising the full-year margin guidance for this year.

We're maintaining our NAFTA heavy duty market forecast at 265,000.

I know some of you have read and heard about supply chain weaknesses not affecting Eaton, but affecting our customers during the quarter and expected for the remainder of the year.

That's the reason that if you recall going back to the April conference call that we capped our forecast at 265,000, although we're convinced the actual demand is stronger than that.

And we do also now expect a little higher growth in the markets outside of NAFTA so that you'll see that we have changed our market growth forecast as well.

Turning to chart 11, Automotive segment.

Strong segment, you may recall when we talked last in our April conference call there was a lot of concern being expressed about whether automotive franchises would see stronger sales in the second quarter than the first quarter.

Our sales were 3% stronger than the first quarter sales at $460 million, up 18% from a year ago.

Very handsome 12% margin again up from the first quarter level.

We're raising our full-year margin guidance based upon our strong performance.

And we saw, as I think the overall industry saw, that the impact of the Japanese supply disruption turned out to be less than some of the really dour forecasts that were around in the April time period.

So, if you move to chart 12, which is labeled the end market growth 2011, you can see that in 2 of our business segments, both in the Truck area and the Automotive area, we've increased our sales up 3 points.

That is the market forecast, up 3 points from 22% to 25% in Truck, up 3 points in Automotive from 6% to 9%, and that's what causes the 1% increase from our 10% previous forecast to now 11% for the weighted average of our global markets this year, we think a very positive development.

Moving to chart 13, you can see that some slight tweaks in terms of how we think the segment margins will lay out this year.

No change in Electrical Americas, down 1 point in Electrical Rest of World really due to this weakness we've seen on the solar side here this year, up 0.5 point in Hydraulics, up 1 full point in Truck, up 1 full point in Automotive.

That's what leads to the 14.5% margins which we think is really quite strong evidence of our ability to move ourselves towards this 16% goal for segment margins by 2015.

Again, in a year where there's been a fair amount of commodity inflation this year.

So, again we think we're doing a good job here on the ability to generate real premium margins.

If we move to chart 14, the 2011 EPS guidance.

The big news here is that we're increasing our full-year guidance for the third time this year.

This time by $0.15, or about 4%, so very much in line with the stronger performance we saw here in the second quarter.

And you can see the midpoint for our operating earnings per share guidance for the third quarter is $1.08.

If we move to chart 15, a quick reconciliation.

For the third quarter starting with the base of our second quarter, obviously we just reported $0.97 operating earnings per share.

We expect to get about $0.08 from incremental volume in the third quarter compared to the second quarter.

That's a blend of the seasonal impact of higher revenues at our 33% incremental and then, additional FX and acquisition volume, that's at a lower margin of about 10%.

We do expect, as I mentioned a couple times this morning, to be recovering what we had in terms of uncovered commodity costs.

Both in the first and second quarter, they ran about $25 million.

We expect to eliminate that in the third quarter.

Our Aerospace margins, that I mentioned to you that have been depressed both in the first quarter and the second quarter by programmatic expenses, we expect to recover that in the third quarter, that's about $0.02.

We do expect a higher tax rate in the third quarter and I would say also in the fourth quarter, but the impact of the third quarter at about 18% tax rate compared to the 14.7% tax rate that we had in the second quarter is about a negative $0.05.

That higher taxes or level of taxes is really being driven by the growth of profits in the higher tax jurisdictions such as the United States.

That leads to $1.08 as I mentioned, it's our third-quarter operating earnings per share guidance at the midpoint.

If we turn to chart 16, a quick recap of our 2011 EPS compared to 2010.

What changed on this chart from the last time we shared it with you, we've increased the market forecast to 11% from 10%, that added about $0.12.

We increased ForEx sales, that increased about $0.06.

The top category that is totaled at $1.93, that's $0.18 higher than what we showed you at the end of the first quarter.

Then if you go to the several negative section, there is an additional $0.01 both in the number of shares outstanding in pension expense and in the other, so a total of $0.03, that's $0.01 on each of those lines.

So, the plus $0.18 minus the negative $0.03 is how you get to the $0.15 increase in our full-year guidance to get the total of $4 at the midpoint.

Chart 17, just a way of keeping you up to date with each of these elements that drive our guidance this year.

As you can see the changes between July and April, the 1 point faster market growth.

You can see about $65 million of additional revenue from acquisition that comes from the several deals that we have closed this year.

You can see $200 million of higher ForEx sales all leading to about a 15% increase in the midpoint.

And then if you drop to the very last line item on the page, free cash flow, you'll see that it's about $50 million less than it was, and that's because we're actually finding additional attractive investments this year in terms of new product releases and capital expenditures.

So we've increased our CapEx forecast to about $600 million from what had been about $550 million.

All of this leads to, as we mentioned in our press release, increased sales of approximately 19%, increased operating earnings per share full year of 42%.

So, once again, we think a very, very strong year in the midst of what many people have described as somewhat uncertain economic conditions.

And then the $64 question I think that's on all of our minds was this kind of strong, strong year here in 2011 is as we peer into 2012, what can we start to utilize as a way to kind of guide our thinking and planning going into next year.

And I would stress these are again initial thoughts, not formal guidance.

We think 2012 will be a solid year and the consensus view as we look out there in terms of global GDP now is about 3.7%.

More importantly, when we look at global manufacturing industrial production the consensus out there is about 5.2%, a pretty good environment for industrial manufacturing companies like Eaton.

But we think there are a couple of additional reasons that it may be even a little more attractive year than that for Eaton because our late cycle markets are just beginning to accelerate.

US nonresidential is a good example of that.

We've obviously seen much stronger activity in terms of the large data center markets now than we witnessed during the first half in terms of shipments.

And clearly we've all seen the schedules for commercial aerospace ramp ups which are quite substantial the next couple of years.

In somewhat of an odd fashion, many of the early and mid-cycle businesses started to recover I would call it out of pattern from traditional economic recoveries.

So we're still seeing the industrial markets recovering whether that be in the electrical or in the hydraulics market.

We're continuing to see growth in the mobile side of the hydraulics market as well.

NAFTA Class 8 clearly is in the midst of a several year ramp up and we've talked about our view that we think 2012 is a year that starts with a 3 in terms of NAFTA heavy duty.

The global automotive marketplace is continuing to recover, not just in the emerging nations but in mature economies such as the US.

All that leads us to believe that 2012 is going to be a solid year of economic growth and we would expect again to outgrow and then to have positive acquisition of revenue on top of that.

So, with that we'll, Don, turn things back over to you for questions.

Thank you, Sandy.

At this point in time we will open for questions.

(Operator Instructions)

Jeff Sprague.

Good morning, everyone.

Sandy, I wonder if you could actually give us a little bit more color on your thoughts on the non-res market and maybe split it kind of commercial non-res versus other non-res if there is a distinction to be drawn there?

Obviously the actual physical construction market is still very depressed but maybe some color on what you're seeing if this energy retrofit or what it is that is giving you some confidence in the pickup?

Sure and Jeff, as you know, the market segments in non-res continue to be quite different by the individual verticals, and again your observation is right about 50% of this market is in the noncommercial side, and ABA-- ABI, excuse me, really contributes or addresses the commercial side.

I'd say we're continuing to see our wastewater treatment being very strong, oil and gas is up a couple of times from 2010, mining and metals continues strong, industrial continues strong, utility is starting to uptick.

We think healthcare universities are going to be a little higher in the second half than they were in the first half and it's the small commercial construction side that continues to be a little weaker.

We're also seeing the data center side pick up here for the second half versus the first half.

So the way we think about it if we look at our backlog in non-res construction, we're up some 15% from a year ago.

And we think that that's a strong indication in terms of what we've already got in the backlog, and that our backlog in large projects businesses is up a little higher than that.

So we think we're in this process where we're seeing very solid evidence about the recovery.

And while it's hard to be able to predict exactly which month of the year that the whole segment will go -- the whole reported segment will go positive, we're fairly encouraged what we've seen so far.

So we're bullish for the second half and going into 2012.

Thanks.

And could you provide a little more color on what you're actually seeing on price?

It sounds like you do feel like you're caught up.

Is there any residual lag as it relates to being caught up as I think about Q3 and into Q4?

We think to the best that we can forecast all of this, and there's obviously a lot of moving pieces in this, but we think we've seen the 2 quarters of the non-covered commodity costs with roughly the total of $50 million having occurred in the first half.

We have announced price increases in most of our businesses over the last 6 months, and actually a couple rounds, and we feel like we're pretty well caught up at this point.

So our expectation is that our commodity costs will be fully covered -- our increased commodity costs will be fully covered in the second half.

And just finally for me and I'll pass it on, is there any regional distinction in what you're seeing in your data center business developed world versus developing?

No I would say you tend to find the really big data centers tend to be a little bit more located in the developed nations of the world at this point.

So there's that difference, but even that is starting to close.

So no I wouldn't say nothing regional in that respect.

Thanks a lot.

Jamie Cook.

Hi, good morning, it's actually Peter Chang in for Jamie.

Good morning.

Good morning.

Congratulations on a solid quarter.

Thank you.

I had a question on the FX forecast -- or actually how much did FX benefit the first half of your year in terms of EPS?

Because it looks like you took that up from $0.05 to $0.11.

It was, Peter, it's Rick, it was to the tune of about 200 -- a little over $250 million.

But that's on the sales line, right?

Yes.

But how-- on the-- for flow through to their earnings line, do you know what that number or what that positive impact may have been?

Well I'd have to grab the number.

But I can tell you for the second quarter it was a benefit of about $20 million of profit.

And it was $7 million in the first quarter.

So it's about-- generally comes in at about 10%.

Okay.

So you've seen about a little over half of the FX positive impact in the first half of the year it looks like?

Yes, based on our expected $400 million of FX revenues for the full year.

Okay, great.

Thank you.

And I know it's early, but if we're thinking about 2012, it looks like it's shaping up to be a pretty solid year in terms of the macro based on your assumptions.

What should we be thinking about in terms of an incremental flow through?

Is 33% going to be a good number to use for modeling purposes?

Yes, I think it's just a little early for us obviously, we've not gone through our whole planning.

What we've talked about generally is that through the cycle that we'd like to see margins there in the sort of i30% to 35%, but I think we'll defer on that until we get out to later in the year.

Fair enough.

I appreciate you taking my questions.

I'll get back in queue.

Ann Duignan.

Hi, good morning, guys.

Good morning.

Maybe, Sandy, you could give us some color also on Rest of World, Truck volumes being up.

I think of that business as being in Rest of World being Brazil both commercial truck and agriculture.

Can you just give us some color on what's going on in those regions and why you took up your numbers there?

Part of it's what's already occurred in year this year.

Ag actually in Brazil is not driving this.

The ag market has not shown positive growth compared to 2010.

But what we are seeing is end markets like India, for example, you're seeing strength there and that we've continued to do very well on a number of large programs that are actually based out of Brazil but ship into other areas of the world as well.

I'd say that's the primary.

And I would describe the change as it's a tuning change at this point, it's not a gigantic change.

Okay.

And then similar question on your Electrical Rest of World, the solar business that you noted, the inverter business.

Can you talk about how much of the business that is?

And we haven't heard you talk very much about that business in previous quarters, can you just again a little bit more color on what's going on there?

I mean we understand what's going on in the solar market in places like Germany.

Yes.

And the best quantification we can give you on that is we've been talking for the least year it's been one of the fast growing segments, it's one where we have some particular expertise and really coming out of the inverter technology that we acquire as part of Phoenix Tech.

We don't break it out as an individual vertical in terms of our public reporting, but as I mentioned it was the single biggest factor that caused us to have this drop in the second quarter in terms of bookings.

We do think you're going to see solar again turn positive.

We think part of this was an inventory challenge in the channel as the market slowed down.

But we also think when you look at large areas of the world like Europe, Germany in particular, that pulled back the feed-in tariffs, they now are faced with how they're going to replace their nuclear power industry here in a very short number of years.

And so we think you're likely to see a real push on churn out of energies again as they try to close that gap.

That's how we think this is a more transitory weakness at this point and we'll see this growth re-establish itself.

Okay.

I don't really have that many questions, I thought it was a pretty clean quarter, so I'll get back in line.

Thanks, guys.

Great, thanks, Ann.

Jeff Hammond.

Hi, good morning, guys.

Good morning.

Just back on the power quality and data center market, there's been some recent press on some significant shutdowns of government data centers.

I just want to get your -- how does that impact you?

How big is your government business?

I mean what's the risk that we get to an over built point on the commercial side as well?

Yes, we certainly are not seeing the risk of over built at this point.

The first half has been a very busy half in terms of large data center both quotations and wins, and so our expectation is in the shipping side now the things that are own shipments will increase materially in the second half compared to the first half.

We're continuing to see the drivers of so much of what's going on whether this is online video or whether it's just a lot-- or streaming video or much more online storage, that is continuing to push this.

And then the other big driver in here is the efficiency angle where these larger more cost effective data centers are just what people have to move to.

Having said that, Jeff, there clearly is an element and not just in data centers but I would say in municipal and in federal level government spending that has slowed down for all the reasons we well understand.

You're seeing these positive numbers we're reporting in spite of that, so I think we've got that breadth and diversification which allows us to move pretty well between these segments.

So that is not a concern for us at this point.

Okay, and quick on Aerospace, how big of an impediment is this military dynamic to what's-- what would be another rise of snap back in the aero business in 2012, 2013?

Well again, remember our balance.

A little bit more than 60% on the commercial side, a little bit less than 40% on the military side.

I think almost anybody's military forecast has to be a lower number than it would have been 2 years ago, and so ours obviously is.

But what we're seeing is very big ramp up on the commercial side and you see all the public figures that are available there from both Airbus and from Boeing.

So we're on the front end of a pretty exciting ramp up which we're convinced is going to provide solid overall growth in the Aerospace market.

And we'll begin to feel those orders in our shipments really at least a quarter ahead.

And so if they want to ramp up in January and February, we're going to be shipping that in this fall which is again one of the reasons we've talked about our growth in that marketplace, why we feel it's a late cycle business and it's going to do well over the next couple of years.

Great, thanks, guys.

Steve Volkmann.

Hi, good morning.

Good morning, Steve.

Hi.

I wanted to ask if we could frame 2012 a couple of ways.

The first one I guess is I'm thinking about incremental margins, I know there was a question about the 33%, but I guess I'm just trying to think more directionally.

You're sort of in the low 20s here, but the growth is clearly going to slow a little bit next year.

Can we get higher incrementals even though the growth rate is slowing in 2012 and maybe the key buckets that kind of drive that?

Well I think maybe the best way we can help you frame it, and I understand you're really trying to approximate a rate of improvement, is that we still feel comfortable with the 16% segment margins in 2015.

And so as you think about the inevitable trade off of volume and margins, I think you can ramp that fairly incrementally, or rateably over this same time period.

We've not increased that 16% projection for 2015 at this point, so we're obviously going to outgrow these markets as we have been and that ought to be part of what you think about as you think your way through your guidance.

If you take that 5% industrial production plus we hope something because late cycle businesses we think will do a little better, and work in your thoughts about our outgrowth and what our net year-to-year incremental acquisition revenues will be.

I think it gives you a pretty handsome potential look at revenues.

Okay.

I guess that's helpful.

What about-- how do we think about 2012 with respect to the stimulus spending?

I think you've talked about the $500 million benefit this year, is that sort of conceptually a head wind next year or not?

Yes I think the $500 million that we expect this year is right in these non-res numbers, so, no, I would say you can almost kind of drop it out of a separate line of analysis because it's really been put right into the non-res numbers at this point here in 2011.

But does that mean we're going to lose $500 million in 2012?

We don't think Eaton does because we've been very successful as I mentioned with this breadth of end market segments so that because of our very large footprint we cover virtually all of these verticals well.

So we aren't seeing it as something that is going to be a head wind for us going into 2012.

Okay.

That's helpful.

Thanks very much.

Andy Casey.

Thanks.

Good morning, everyone.

Good morning, Andy.

Good morning.

A couple of questions on Aerospace.

Could you clarify what the total hit related to the program costs in the quarter was and then does any of that type of head wind fall into the second half as well?

No.

We only-- address the second part first, Andy, we think it is gone by the second half.

You may recall what we said in the first quarter conference call is that these series of scope changes and delays and execution issues we thought would impact both the first and the second quarter.

We actually saw the second quarter margins just a little bit stronger than we thought they might have been when we came out of the first quarter.

It's on the order of $6 million in this quarter.

And I think you can see that that puts us back in pretty handsome margins in terms of the segment.

But we believe we should be returning ourselves to margins in the second half, because as you recall we have not changed our margin guidance for the Aerospace segment.

So that I think you can pretty well get an expectations looking where we have been in the first half, the kind of rates we've got to run in the second half to hit that overall margin, and we do think we will hit it.

Okay thank you, Sandy.

Then the rest, Electrical Rest of World, it looks like your guidance is for the markets to kind of flatten out in the second half.

Is that accurate and do you think it is short-term issue or could that continue for a while with all of the debt conversations and the like?

Yes, we've got the market forecasted at 6% --or 7%, excuse me and we'll see if we end up being a little bit conservative as the year goes on.

But to us it's sort of a prudent number as we look through the changes that are going on.

And that's actually in line with what we're seeing in the Americas market as well at this point.

Okay, thanks.

And then 1 broader last question.

You have all of this uncertainty going around on the various macro indicators.

Have you seen any of that seep into particularly the distribution channel in terms of their access to capital?

Have not yet.

But I think it's more kind of a frictional loss in terms of people's confidence I think is what's happened.

So we haven't seen it as much on an issue of people's access to capital not that they couldn't change but more about a hesitancy to make that larger or longer commitment and I think that is affecting consumers and I think it is affecting businesses.

I don't think there's any question about that.

Our view from Eaton is that it's one of the reasons we have a highly liquid balance sheet.

It's one why we've got our financing strategy is one that is tiered we think in a very prudent way.

So answering the question you didn't answer -- or didn't ask, I think we're well equipped to be able to deal with what may come out of is there some action or lack of action over the next couple of weeks?

Thank you very much.

Josh Pokrzywinski.

Hi, good morning, guys.

Hello.

Just to kind of go at the question about-- that Jeff asked about, the components of electrical a little bit differently on the non-res side.

Maybe can you talk about some of the different sub verticals in there and where we're at relative to peak?

So I think as you guys talk about non-res, a lot of industrial buckets get lumped in there as well, certainly the building aspect, whether it be commercial or institutional is well off peak.

But how are we on the industrial side relative to kind of the 2007/2008 timeframe?

Yes, to get you back to 2007/2008, I think we'd have to go get some more data to do that, we've tended to kind of look at this as year over year.

But I'd say where you're seeing the strongest activity has been oil and gas and for all the reasons we understand and those numbers are up really quite strongly.

I think you've seen the mining segment has been strong as well for all the commodity reasons that we well understand as well there.

Clearly the much weaker area has been the small commercial.

It's been what you tend to see in and around retail.

It's been weak in the office market segment, and of course those are big contributors into what you see with the ABI information that comes out.

So and I would say anything that's kind of been behind the export side has done well again and that gets you back to the manufacturing side.

Having said that, if you take the whole marketplace, I don't know, Rick, you maybe got the numbers there, we're probably down 30%, 35% from peak.

And that's a pretty good planning number as to what's happened over the last several tops to peaks.

That's why we believe as we look into all this year let me call it the noncommercial side of the marketplace has been getting stronger, it's been the commercial side that's been lagging that but we're seeing that rate of decrease get less as we go quarter to quarter.

That plus the bookings we have in hand is what gives us confidence about the second half.

Got you.

So the bookings on the smaller commercial side are starting to improve?

Well they're a little weaker right now, and so I would say that that's the part of the market that has been a little weaker in the latter part of this quarter.

Okay.

And then just shifting over to Hydraulics for a moment, it sounds like there's some persisting tight supply dynamics in that marketplace, maybe affording you a bit more opportunity on the pricing side.

Any competitive elements that you're aware out there, any changes in the market coming to where maybe that supply starts to loosen up and pricing becomes a little bit more normalized?

Well again, I would step back and say that what we've seen was a very rapid decline and we've seen a really rapid rebuild.

Lead times in the industry are a little longer, but we're not seeing demand abate, and so we think we kind of go around the world and it's still very strong on the mobile side.

The industrial side has begun to catch up, but mobile is still tending to lead this marketplace.

And I think the piece that probably we all have to rethink as we think our way through this kind of cycle in Hydraulics is that we're seeing a lot more construction activity in many, many new parts of the world than was around during the last cycle.

And we think that is contributing to longer and higher strength than perhaps history would have told us.

But is it fair to say that as demand has snapped back quickly and maybe there have been pinch points in the supply chain that you've been able to be a little bit more forward in price in Hydraulics than some of the other businesses?

No, I wouldn't say so.

I think again each of these businesses has seen very significant commodity pressure over the last 6 to 9 months, and I'd say Hydraulics is not much different than the rest of our businesses, so we've been working that issue.

Obviously different businesses have different cycles for how fast price increases get in place, and so no I wouldn't single it out.

Okay.

Thanks a lot, guys.

Terry Darling.

Thanks, good morning, everyone.

Good morning, Terry.

Still trying to understand the arithmetic on the Electrical Americas end market and then sort of how that ties in with your revenue forecast there.

So 14% end market growth in the first quarter, 10% in the second, 7% for the full year, I think means you've got to be more like 2% or 3% in the back half.

Which to get to the kind of revenue numbers you're talking about I think means you've got a lot outgrowth in the second half of the year but can you just clear me up on that?

Yes, I'd have to go back and look through each of the numbers, Terry.

But I think what our expectation has been that of course things started to lift fairly significant in the second half last year, too, so that we got a little bit year to year in that regard.

I don't know, Rick, you got a number there?

Yes, it's-- part of the problem you've got the comparisons year-over-year changing as well, so it's probably easiest, Terry, if we just deal with that off line to give you a better comparison.

But we do think that as Sandy has pointed out that non-resi is likely to bottom any time now and begin to show modest improvement over the course of the year, and where as we see continued strength in the industrial parts in particular, I'm talking about the Americas right now, but we can give you a comparison that puts it altogether off line.

Okay and then--

Terry, I would just add, too, it's not unusual to see Eaton significantly outgrow in the non-res marketplace as it comes back because it's an area that Eaton has had a very, very large footprint,.

So I suspect part of it's right in that point you made.

Yes and you mentioned the big increase in data center shipments in the back half, so that's probably part of what's going on there.

So and then on automotive index, when I look at global build forecasts, so maybe if I pull out Japan which I suspect is not in your index, the 9% growth for this year is much higher than the build forecast even adjusting for Japan mix, and I'm just wondering what might be driving that?

Maybe I'm not appreciating the Asia mix at this point or the Eastern European mix.

Any other thoughts on why auto, your end market forecast would be so much stronger than the global build?

Yes, our own feeling here again Terry was that in the first half of the year we were perhaps a little bit conservative in terms of our market outlook and that had to do we were cautioned a little bit by what we saw occur obviously in Japan.

And we're pretty comfortable with 9% at this point.

I think our numbers in the US, Rick, are on the order of 15%.

Yes.

And we're seeing stronger third quarter build schedules than we would normally see in the seasonally weak third quarter, and that's got us feeling that we're going to see these markets be a little stronger than we had thought.

And, Terry, we have-- our view on markets outside the states is we think European growth is going to be on the order of 6% this year.

Asian growth ex Japan and you're right, we don't include Japan in our market index because we serve that market through our investment in Nittan Valve, that publicly traded Japanese valve company, so Asia growth ex Japan we think is going to be on the order of 8%.

And so we feel pretty comfortable with these market forecasts.

Okay and then lastly on the down tick in the Electrical Rest of World margins, is that just the effect of the-- what's going on in the solar market?

Is there some other dynamic there?

And, Sandy, is you're longer term thinking on where Electrical Rest of World margins can go in that 2015 range changed at all?

Let me answer the latter part first, no, they have not changed in term of our expectations.

And I say currently it is the solar issue but it's also as we mentioned the impact of rising aging currencies, and we had some of that in the first quarter as well.

We believe that starts to attenuate at this point, but that was the other element that impacted the margins.

Okay, thanks very much.

I should mention we had commodity pressure in there as well.

Those were the 3 issues.

Eli Lustgarten.

Good morning, everyone.

Good morning, Eli.

Can we talk about the commodity impact?

I mean you cited the $25 million unrecovered and you're referring mostly in Electrical Rest of World and Electrical Americas, but copper has also now gone back up to $4.40 plus as opposed to $4.10.

Can you talk about how much affected each sector in the first-- in the second quarter and where we expect to get both sectors back in the second half?

Yes, Eli, we estimate just in the first quarter the biggest impact was really in our 2 Electrical sectors, but we had impact in each of the other businesses that deal in the vehicle markets as well.

What we have been doing though, as I think you're aware, through both the winter and spring and early part of the summer have been announcing additional price increases and those price increases are either in effect or go into effect quite shortly.

And as a result, that's why we're confident that this approximately $25 million that we incurred both in the first and the second quarter, because you're right, we did have some additional increases in the second quarter, will be totally covered in the third and the fourth quarter.

But can you give us some impact of what is-- how it hit the 2 electrical businesses, I mean how much higher would margin have been if that was recovered?

Well as I mentioned, you step back for the Company at this point, our margins with FX and acquisition included were at about 22% for the quarter.

If you take out the FX and the acquisition margin, they're almost 30% -- they're over 29%.

And then if you deal with the impact obviously the $25 million, that's about 5 points.

And so that gives you a feel for how much the uncovered commodities are impacting us.

And the biggest portion of that commodity pressure has occurred really in our Electrical segments.

Great.

And 1 if I-- can you talk about comparisons in the Hydraulics sector for the rest of the year?

I mean the hydraulic marker was red hot if the first half, I mean you're talking about 35%, 40% gains industry wide across the board, so we're looking at much tougher comparisons to go through the year and do we still say double-digit gains in the second half in that business?

Yes, we do.

The rate of growth, Eli, is likely to be a little bit less than in the first half as you point out, but we still think it'll be double digit.

All right, thank you.

Christopher Glynn.

Thanks.

Good morning.

Good morning.

Hello.

Yes, on the Aerospace business just wondering if we can dive in a couple of pieces starting with the military?

How would you qualify the degree of visibility you have in the back half?

And then just comparing your after market trends versus the OE on the commercial side.

Yes, on the visibility issue, we do get we call it reasonable visibility out sort of in this 3 to 6-month time period.

I think the bigger question is it's not so much an issue for 2011 as it is an issue sort of in the 2012 to 2014 time period as to some of the major programs, not so much will they be canceled but how much will they be down sized under the budget pressure?

And there are lots of numbers floating out there.

We've tried to take into account what we think is a reasonable estimate of what those will be.

And the strength of our commercial business will allow us to have a handsome growing business, but until we get through this budget debate, I don't think anybody can be sure what the US defense budget is going to look like.

Second part of your question, I'm sorry, Chris?

Yes, just the after market--

After market.

Yes, on the after market side we like I think most people saw a very strong quarter on the commercial side and as the real squeeze is going on on the military side, we actually saw very weak quarter in terms of after market on the military side.

And I think that that's not a bad expectation for what may occur while all the government budgets are being really heavily impacted right now and everybody is looking for discretionary ways not to spend money in the government right now.

Okay and then just switching over to Electrical.

Sounds like a lot of outgrowth still in place in the back half, but how do you break that $500 million stimulus and is that largely a first half realization?

No and Chris, we're not breaking it out here this year like we were last year, but the expectation was that we would see it pretty much like we saw last year that the spending patterns were pretty even through last year and that's our expectation for this year.

So I really think as you try to think through your model for the year, you can almost take that out and really just simply look at nonresidential recovery and use that as a stronger surrogate so that you would be seeing against the negative that was still occurring in the firing half that we go flat and begin to go marginally positive in the second half in terms of the end market.

Great, thank you.

Mark Koznarek.

Hi, good morning.

Good morning, Mark.

Good morning.

Struggling a little bit here with the Electrical Rest of World margin outlook and the implications for the second half suggest some pretty sharp sequential pickup into like 12.5% margin versus under 10% here in the first half.

What is going to be different in the second half?

I would say one of the big element there Mark, is price versus commodity costs and that's clearly a key element in this, and we feel comfortable is where we are in that regard now.

In terms of the pricing that's already been put in place for the second half?

Correct.

Okay.

And so there's not an expectation about this solar inverter thing, you're not expecting that to come back and that has particular profit characteristics?

Yes, I don't think we're going to see an enormous short-term snap back.

I mean we're still supportive obviously of our position in that marketplace, but I think it'll take a little while to see some of these feed-in tariffs really put back in place and get the market reaction and fill the channels.

And so I don't think that's a second half 2011 issue.

Okay.

And then in China you've got a lot more businesses besides that solar inverter thing and there's a lot of controversy and interest as to the momentum of the overall Chinese economy.

And I'm wondering if you can give us color on what you're seeing across the breadth of businesses setting aside this one time element of the inverters?

If you step back and you look at the economy, I think most people agree that the Chinese GDP number was somewhere over 10 last year, our own approximation it was about 10.3%.

We think this year it's going to be over 9%.

Our best approximation is it's going to be around 9.5%.

I recognize any estimate of the Chinese economy within 0.5% is probably unduly precise.

But what we've seen is that there are segments of the market still growing very quickly.

There are segments that have cooled, not unlike what we've seen elsewhere around the world.

The truck industry is an area obviously that had a booming year last year and has cooled fairly significantly this year.

Auto has seen some months of slowdown but is up at a high level.

And then you've seen some evidence out of the hydraulics end market that some of the individual competitors are doing very well.

Some others are not doing so well, and I think that's more of a reordering of competitive position than it is simply an end market issue.

We're continuing to see pretty good activity on the Electrical business as you go through the whole power distribution area.

If you remember going back to the first quarter there were articles being written that you were seeing weakness in that power distribution area, that seems to have come back a little bit, and the utility spending has come back a little bit.

So a little different segment by segment but we still think there's positive growth there.

And I would say on the larger issue of the brick countries, we think they're being responsible doing what they've got to do with interest rates.

Now and that has -- and I mean that's increasing them.

And so that means that we have seen some slower rate of market growth.

But as I mentioned in my opening commence our sales were actually up 30% in the emerging nations in the second quarter versus a year ago.

And so we're continuing to see strong growth.

Okay.

Very good.

Thanks.

[Jason Dahlman].

Good morning.

Good morning.

So you touched on the supply chain impacts at Hydraulics.

But have you seen more broadly any continued supply chain issues related to Japan in Electrical or any of the other segments?

No we've really not.

And really the supply chain issue I mentioned earlier is really more of a North American heavy duty truck supply chain issue where with the strong ramp up in volumes that have been terrific from that perspective.

Not unlike other historic ramp ups, the industry is starting to see some challenges with getting balanced inventories into the OEMs.

This is not an Eaton issue, it's more of an industry issue and that's why we feel that 265,000 is still a good number in terms of production here.

Okay and then also you spent a fair amount of time on this call talking about the nonresidential construction trend, has there been any change on the residential side within Electrical?

I think there we'd be talking about tunings of 8 versus 10 houses.

No, not much, still this is obviously a very stressed segment and so we would say not anything that's material to Eaton.

Okay, thank you.

Brian Rayle.

Hi.

Thanks.

Most of the questions have been answered, but I guess the 1 question I'd ask on the 2015 16% target margin.

Within the Electrical segment how close are you expecting those 2 segments to come to parody?

Do you expect in that 16% that the Rest of World is pretty close to the North American or even equal?

We've said that we thought there'd be about a 3 point difference between the 2 with the Electrical Americas being higher and the Electrical Rest of World just behind it.

And that's pretty typical for what you see in most global electrical companies where their so-called home market margins are a little higher than the areas they're expanding into.

So I guess the follow up on that is do you expect in that 16% margin, do you expect your North American Electrical business to be more profitable than it is today in a meaningful way or are we going to see the improvements in the other segments?

No.

We said that Electrical Americas obviously would be higher than the average in terms of our total margins.

I guess I see it to where it's higher than the overall average it is now just to get an idea of how much higher it would be or we can expect would the-- I guess the best-- better way to ask that would be is the Rest of World Electrical margin would you expect that to be in line with the Eaton corporate average?

No, we said it would be slightly below.

In January we had indicated that it would be 16% for Electrical Americas and 13% for Electrical Rest of World.

Okay.

So there's no change to that at all?

No.

Okay.

Thank you.

[Ted Wheeler].

Hi, good morning.

Good morning, Ted.

Just a lot of questions on margins, but I guess I'll try 1 more.

If I look at your end-- full year estimate for margin, it sure feels like it's 15%-ish for the second half.

And then we take a linear proceed progression to 16% over 3 years, it's just-- in your reported margin wit ill be 14.5%, so it just feels like the 12% margin would be better than a linear progression if I kind of just look at what's happening in the back half run rate.

Yes, and I think the issue, Ted, there to keep in mind all this is that the first quarter is always the seasonally weakest.

So that I would just encourage you as you think through what feels appropriate to you that you reflect in your own thinking that the seasonal first quarter is always, always the lowest.

And so you generally are going to see a second half that's stronger than a first half from us.

Yes, I guess, well-- okay, but your-- the commodity issue is like 60 basis points, so even with that it just does feel like we might see better than a linear progression next year, but I guess you want me to hold it there for now.

Yes and nothing would be more pleasing to us, it's just a little early at this point.

Okay.

Great.

Great quarter.

Thanks.

Well thank you all very much.

With that, we'll conclude our call this morning.

Ladies and gentlemen, that does conclude your conference for today.

Thank you for your participation and using AT&T Executive Teleconference Service.

You may now disconnect.