伊頓 (ETN) 2014 Q4 法說會逐字稿

Ladies and gentlemen, welcome to the Eaton fourth-quarter earnings conference call.

(Operator Instructions)

As a reminder, your conference is being recorded.

I would now like to turn the conference over to your host, Mr. Don Bullock.

Please go ahead.

Good morning.

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

Thank you all for joining us for Eaton's fourth-quarter 2014 earnings call.

With me today are Sandy Cutler, our Chairman and CEO; and Rick Fearon, Vice Chairman and Chief Financial Officer.

Our agenda today includes opening remarks by Sandy highlighting the Company's performance in the fourth quarter along with our outlook for 2015.

As we've done on our past calls, we will be taking questions at the end of Sandy's comments.

The press release from our earnings announcement this morning and the presentation we'll go through today have been posted on our website at www.eaton.com.

Please note that both the press release and the presentation include reconciliations to non-GAAP measures.

A webcast of this call is accessible on our website and will be available for replay.

Before we get started, I'd like to remind you that our comments today will include statements related to the expected future results of the Company and are therefore forward-looking statements.

Our actual results may differ materially from those of our forecasted projections due to a wide range of risk and uncertainties.

Those are described in our earnings release and presentation.

They are also outlined in our related 8-K filing.

With that, I'll turn it over to Sandy.

Great.

Thanks, Don, and good morning, everyone.

Thanks for joining us.

I'm going to work from the presentation that we posted earlier today.

And so I'm going to start on chart number 3. It's entitled Highlights of Fourth-quarter Results.

Clearly, we finished the year with a strong quarter of performance.

We're really delighted that our operating earnings came in at $1.27, up a full 18% over a year ago, and that was versus our guidance, as you recall, of $1.20 for the fourth quarter.

Sales up 1%: the really bright news, I think, in terms of the revenue line, though, really, is the organic revenue growth of 5%, the highest since the fourth quarter of 2011.

We had record fourth-quarter segment margins at 15.9%.

You may recall we were at 16% in the third quarter, and our guidance at that time was that we had expected margins might come off as they normally do seasonally by about a half a point in the fourth quarter.

Clearly, we did substantially better than that, and these overall margins of 15.9% at the segment level were up 1.3 points versus a year ago.

A record operating cash flow of $944 million: obviously, a cash conversion ratio of about 119% in the quarter, over 12% of sales.

And that we continued in the fourth quarter, as we had done in the third quarter and second quarter, to repurchase our shares.

We repurchased $326 million of shares.

That was 4.8 million shares.

And I think as you'll recall from having added up what we did in both the second and third quarter, that's a total now of 9.6 million shares, or $650 million expended in repurchasing them during 2014.

So a total of buying back about 2% of our outstanding shares during 2014.

If we turn to the next chart, chart 4. It's entitled comparison to fourth-quarter guidance.

As I mentioned, really very pleased with the $0.07 beat, really made up of three items.

The big headline clearly is the higher margins of 15.9% versus the 15.5% that drives $0.04 of the beat.

A lower tax rate really came as the result of legislative changes, not just here in the US but elsewhere around the world for about $0.02, and then the lower share count that I mentioned.

That's a result of buying back the 4.8 million shares in the fourth quarter, $0.01.

So, again as we look at this, the real big news is, obviously, the better margins.

If we turn to chart 5, a summary of, really, all the numbers you saw in the press release.

So I'm not going to walk through all these numbers.

I do want to just highlight in the lower left-hand corner in the green box entitled sales growth, again, the organic sales growth of 5%, we think a really, really strong record, obviously, of performance here in this quarter.

If we turn to the next chart, which is labeled Electrical Products segment, and we'll start to go through, give you a couple comments on each of the operating segments to report.

Obviously, our largest segment of the Company, about 33% of the Company, a very strong quarter of performance: as you can see, sales were up 2% organic was up 5%.

And here we start to see the impact of Forex in the quarter, which grew in the fourth quarter to be more significant than it had been earlier in the year.

And as we'll talk about 2015, we think that's going to continue to grow as we move into 2015.

But sales up 2%, 5% organic, very strong margin performance at 17.6%.

I think when you look behind the business in terms of the activity that's going on, bookings were up 4%, but once again this is very much a story of great strength in the Americas, and then weaker activity outside the Americas, a theme you'll hear us talk about really in terms of each of our businesses.

And to give you just a dimension of that, our bookings in the US were up almost 7%.

So I think you can get a sense for the difference around the world.

Again, we get into individual products and end markets.

Lighting, again, very strong volume up 13%.

We're delighted that our investment in LED is really paying off.

About 50% of total revenue now in the fourth quarter was actually LED.

Very strong in residential, very similar numbers to what we saw in lighting.

Our industrial activity was quite strong.

And we were pleased with the rebound in our Canadian business that was quite strong.

Those really the highlights of where that booking strength came.

You may recall, bookings in the third quarter were 5%.

Bookings in the fourth quarter 4%, so continued nice tone in this business.

If we move to the next chart, entitled Electrical Systems and Services segment, about 29% of the Company.

Obviously, a very nice quarter here.

While sales were basically flat with the third quarter and flat with last year, you continued to see the ?- the I think very strong margin performance here.

I think many of you will recall, we had a disappointing second quarter and we'd indicated at that point that our plan was to get our margins in the second half to an average of 14%.

You'll recall in the third quarter, we were at 14.6%.

In the fourth quarter, we were at 15.2%.

So, obviously, significantly stronger than we had laid out at the end of the second quarter.

Bookings were flat and once again, in this particular business, we've been seeing a real flatness or weakness on the power quality side really around the world.

And here in the US, somewhat of a split in terms of the major project work in terms that small projects, things aimed at light commercial type markets continued to be very robust.

The very large projects, more heavy industrial, tend to be weaker and tend to be being postponed at this time period.

And then I would say the utility markets continued to be weak at this point.

Many of you I'm sure are looking at the bookings progression here, 3% in the third quarter, 0% in the fourth quarter.

I'll talk a little bit more about the implications of this in terms of our guidance for next year.

But it does mean that we would expect a start in this segment a little slower in the first half of next year because obviously the last two quarters of bookings have been a little weaker.

That's all in our guidance already.

If we move to the next chart, Hydraulics segment, about 13% of the Company.

Again, clearly 6% volume decrease from a year ago.

If you look toward the green box in the lower left-hand corner, you see that 4 points of those 6 points was Forex, but no question the market itself weaker as we've talked about.

Margins of 12.2%, down from a year ago, up just slightly from the third quarter, which was 11.7%.

And when we get inside the economic activity here again, I think you look at our bookings, they declined about 3% from a year ago.

But again, very similar to what we discussed with you in the third quarter.

Distributor orders were up 9%.

It was the OEM side of this business that was down again double digit, down 22%, and the story within that OEM weakness is exactly the same as it was in the third quarter.

It's the story of the big ag retrenchment going on here, and so that really had okay tone with our other OEMs but very, very weak here on the ag side.

As we look forward, and I'll talk a little bit more about this when we talk about guidance, but we will be taking some actions in this business to restructure our business, further in light on these volumes.

I'll talk a bit more about that in terms of how it lays out in 2015.

Next chart, Aerospace.

Just less than 10% of the Company.

We think a really fine quarter.

Volumes up 2%, but again, if I can refer you to the green box in the lower left-hand corner, organic growth of 9% offset by as you recall, the divestiture of the two small business units we divested during the second quarter this year.

That's how we get a 1 point of negative Forex; that's how we get to the 2%.

Bookings continued to have a good tone here both on the commercial and the military side.

Commercial is a little stronger than military, but they're both positive numbers.

And the aftermarket running at about 8% continues to be robust, and we are really pleased to see that activity.

Very solid margin performance here at 15.4%.

And then finally, the next chart entitled Vehicle segment, about 17% of the Company.

We think a very strong quarter.

Volumes up 4%, margins of 16.9%.

Within that volume, again, if I can refer you to that green box in the lower left-hand corner, 8% organic growth, very strong growth offset by 4% negative Forex impact.

And for those of you who are looking at the 320 basis point increase in margins, the 16.9% versus 13.7% last year, I think you'll recall in the fourth quarter of 2013, we had had a number of launches -- high-volume launches that we had not done as well on, and that had depressed those margins by about 1.8%.

So I think that the real correct comparison for you to think about is 16.9% versus a run rate a year ago of about 15.5%.

Now we're at the front end of continuing to have a pretty attractive number of quarters here in terms of economic activity with the North American heavy duty truck business.

I think most of you saw in December the NAFTA class orders came in at 43.8 thousand units, that's for the industry.

The fourth-quarter total orders were 130.9 units.

And if you look back over the total bookings for 2014, we believe it may be a record year of individual bookings in the industry.

All that is leading to our forecast of a build -- an industry build for NAFTA Class 8 of about 330,000 units this year.

And we think it's going to start at a pretty brisk level, about 82,000 units in the first quarter, about 85,000 units in the second quarter, about 82,000 in the third, and then 71,000 in the fourth.

And that's our present view for how this will lay out over the quarters this year.

If we could then move to chart 11, which is entitled highlights of full year 2014 results, we think a very good year.

Organic revenue growth of 4%, FX was just 1% this year, and of course in our guidance, we'll be talking to you about a negative 4% next year, so three additional negative points going into 2015 above what we experienced this year.

With all the puts and takes and changes in economic environment and individual operating issues, our guidance originally was $4.70 and we came out at $4.67, up $0.13 over a year ago and that does exclude the legal settlements and the divestiture gains.

Segment margins up 40 basis points to 15.3%.

Operating cash flow, excluding the legal settlements, a record $2.53 billion.

That's about a 0.9 cash conversion, or just over 8% of net sales.

The Cooper integration, really doing very, very well.

We fully achieved that $95 million of incremental savings that we expected to achieve in 2014.

And as I mentioned earlier, all this has enabled us to repurchase about 2% of our outstanding shares at a cost of $650 million this year.

If we then could kind of switch hats here and move out of 2014, although we'd love to talk some more about the fourth-quarter results, but we know your interest is really in trying to understand our thinking about 2015, and that really starts on chart 12 of this packet.

Clearly, we're operating in what I think many people have titled mixed global economic conditions.

And our view on that really has not changed: the relative US strength, the weakness in Europe and Latin America, the slowdown in China.

And then probably the newest factor that was introduced in the second half of 2014 is the extreme currency volatility that we've all seen, and that's done nothing but accelerate into the new year here.

And so set in that context of overall global GDP that we think is going to be around 2.5%, we would expect our organic revenue, and this is a combination of both market and whatever we do to grow in excess of that, to be between 3% and 4% in 2015.

And what we've arrayed for you on this chart is our view of the likely ranges of that organic growth in these four businesses.

And maybe just to give you a little bit of color in and around these, in the Electrical business, clearly we continue to see real strength in the residential markets.

We think that those may well increase again this year on the order of 15%.

The non-res, very solid single-digit-type growth, similar to what we saw mid-single-digit, similar to what we thought this year.

Utility will be one of the lower growers, maybe a 1% type market.

And then the global power quality markets, we think will be flat, not much growth this year.

In the hydraulics market, I know there's a lot of interest in trying to understand the end market activities here.

Not much new versus what we've been talking about.

Real retrenchment of US and global ag, particularly at very large equipment area, what many people are calling large ag.

And those numbers on a global basis on the order of a 20% large ag pullback.

US construction, mid-single digit.

Industrial is pretty reasonable.

Mining a negative.

And clearly we continue to see weakness in the Chinese construction equipment market, and that's what leads us to this forecast.

On the aerospace side, we see the 2% to 4% range.

You're seeing commercial around the world as 5% to 6%, and then US defense at roughly a negative 2%.

And then on the vehicle side, you've heard us already talk about our forecast of 330,000 in terms of heavy duty truck.

We are in the high 16s in terms of the US retail sales.

And then we continue to think that the Latin American market is not going to show much growth here during 2015.

All of that leads us to this overall view of our organic revenue growth this year of about 3% to 4%, remembering again that's going to be offset by about 4% of negative Forex impact.

Moving to chart 13, a quick look at segment margins.

What we've shown you here is in the first column is the full year 2014 actuals, 2015 ranges for each of our five segments, and then in total.

I think they speak for themselves in terms of that they are all increases with the exception of Hydraulics and I'll comment on that one just in a moment.

Electrical products, I think pretty clear continued very attractive margins, continued growth, we get additional synergies in that segment as well this year, and so I think no further comments needed there.

Electrical Systems and Services, I did comment and we've talked about quite a bit with when many of you is that this is a backlog business, so that the bookings in the previous two quarters are somewhat of an indicator of likely revenues and the success of third quarter.

As a result, as we think about the first quarter in this business, that is always the weakest quarter for Eaton in total.

It is also the weakest quarter for the systems and services businesses, and as we look at the bookings the last two quarters, we think this business will start a little slower the early portion of this year and then pick up as the year goes on.

In the Hydraulics business, all the comments I made about the tough market conditions obviously apply here.

As a result of those tough market conditions, we are going to pull some additional restructuring ahead into this business.

Most of that will be completed or expensed in the first and the second quarters.

So I would encourage you to think about this business as being one that starts slower from a margin performance point of view and then margins are higher in the second half.

And then if you think about the total as you look at the 15.9% to the 16.5% for the entire Company, I think you're all well familiar that we tend to have our lowest segment margins in the first quarter, and when you add to those the two comments that I made on Electrical Systems and Hydraulics, we think a good place to think about first quarter segment margins are probably in this 14.5% to 15.0% type range and obviously they pick up from there for the year.

Then if we can move to chart 14 which is the summary, and I won't repeat many of the areas that I've already touched upon here.

That organic growth is 3% to 4%.

That's about $675 million to $900 million, and obviously you get a sense for the 4% negative Forex i0s $900 million.

Corporate pension interest and general corporate expenses, we think will be about $30 million to $40 million higher than 2014 levels.

The tax rate, this is very consistent with what we've been indicating to you over the last six months, we think will be between 9% to 11%, and that obviously is different than the less than 6% in 2014.

That leads us to our full-year operating earnings per share guidance of $4.75 to $5.05 and our first quarter guidance of $0.95 to $1.05.

Operating cash flow, up some 15% from 2014, and that's a cash efficiency ratio or conversion ratio of about 1. Free cash flow, obviously just the difference between our operating cash flow and the CapEx, which we think will be about $675 million.

And then as you saw in our release that we anticipate about $45 million of acquisition integration expense in 2015, and that includes both Cooper and then the last pieces of the wrap up of a few of our smaller acquisitions also concluded in 2012.

So if we move to the last chart, chart 15 is entitled summary, again 2014 we think we had a really strong fourth quarter.

The 5% organic growth, the record segment margins, the all-time record quarterly cash flow.

Finished the year we think well up some 13%.

We think that really sets the basis for another record year in 2015 for Eaton.

Organic growth of 3% to 4%, offset by the negative foreign Forex, operating earnings growth of 5% at the midpoint of our guidance.

Then we tried to give you a dimension into the major elements that are affecting that 5% guidance, that we are expecting Forex is about a negative $0.20 this year.

That's the impact of that $900 million of negative revenue impact.

And the move to that 9% to 11% tax increase from less than 6% is about another $0.17, so you've got about $0.37 of negatives from those two or headwinds.

And if you were to take those out of our guidance, obviously that's what then drives the 13%.

The reason we felt it was important to come back to that number is that I've talked with many of you on different occasions about the fact that I think the challenge for industrial companies is to think about in this relatively low growth market how do you drive earnings there in this 10% to 12% range.

I think our formula, in terms of the acquisition integration benefits and the base earnings being a multiple of revenue, is still in place.

Unfortunately, we're dealing with, and we have to deal with, the Forex and the higher tax rate issue here this year.

In the first quarter specifically, the impact of Forex and the tax rates about $0.09.

And you obviously can get the impression that it's about that same number as it runs through each of the other quarters, as well.

The good news for all of this is that the Cooper integration savings and the additional restructuring benefits we had from the work we did in our industrial sector this year are helping us really offset this negative of $0.37.

So again, if I just come back to the first quarter, I'd ask you just to be thinking about currency impacts impact, seasonally weakened margins, hydraulic restructuring, slower ESS start, and that's what leads us to sort of our dollar midpoint for the first quarter and what we think is still going to be another great year for Eaton.

So with that, Don, I'll turn things back to you and look forward to the questions.

Very good.

Before we begin our Q&A session on our call today, I see that we have a number of individuals in the queue with questions.

Given our time constraints today of one hour and our desire to get as many of those questions as possible, please limit your opportunity to one question and a follow-up.

Thanks in advance for your cooperation.

With that, I'll turn it back over to our moderator who will give you some instructions.

Thank you.

(Operator Instructions)

Joe Ritchie, Goldman Sachs.

My first question is really on the electrical side of the house.

Can you give us a little bit more color, Sandy?

You saw your bookings numbers up in EPG, ESS flat.

I know you talked a little bit about the industrial market not being as great.

I guess what I'm just trying to understand is as you look into 2015 and the organic growth assumptions of 3% to 5% across electrical.

I'm just trying to understand what's embedded in your assumptions for growth -- order growth in those two segments?

Yes, and I think we really think about the market as being across both of them, Joe, and I'd say the big issue is it's really a continuation again of US strength, not much growth in Europe, and growth somewhere between the US and EMEA and in Asia-Pacific.

But I'd say in the non-res market, we again think we are going to see here in the US, speaking to that, this single-digit type performance -- single -- mid-single-digit type performance.

And that on the smaller kind of industrial projects, there's still a fair amount of activity.

It's the really large projects that we've seen have been drier in that regard.

Utility, we don't expect to get a tremendous amount of help out.

We think that's going to be kind of a 1% grower again this year.

And the residential activity, we continue to think will be quite strong.

So basically the products that go through distribution are in that EPG piece and the pieces that include service activity, which has been quite strong, as well as some of the larger projects, and the smaller projects that have been quite strong is in the ESS segment.

Maybe I guess on my follow-up, just focusing on hydraulics for a second.

You mentioned that basically the order retention for this quarter was predominantly driven by ag.

But there's been negative commentary from OEM, from the construction side, as well, this quarter.

You had Cat specifically talk about production being down next year.

So I'm just trying to get a sense for what your expectations are there, on the hydraulics side, specifically as it relates to construction.

On construction, the big, big negative has been the China construction story, and that leaked into a couple of stories that you just mentioned.

And so our view on mining is still down.

We think in 2015 over 2014.

We think the China construction market does not come back in 2015 either.

We think the low end of the construction market in the US isn't bad.

These are kind of mid-single-digit type numbers.

But then the ag piece is the piece that hits particularly hard really around the world on the order of a negative 20 at the big ag side.

The industrial side of the business is not bad, again.

That's kind of a mid-single-digit type business.

So I?d say those are the elements, but I think certainly in concert with comments you've heard from others that Chinese construction market and ag and mining are not positives as we go into 2015.

Okay.

I'll get back in queue.

Thanks.

Eli Lustgarten, Longbow Securities.

Actually, somebody has to ask the obligatory oil field exposure question, and how you're looking at it.

And can you tie it to the Electrical businesses of you gave us a joint 3% to 5%.

Are we really looking at gains in EPG and basically ESS being flat to down in revenues.

Is that sort of the way you're thinking of that?

Let me deal with oil first is that trying to be precise on oil is a little bit of a rolling dice currently.

Clearly, last time we all talked about this, oil was $20 to $30 higher than it is now, and so for Eaton it's sort of a 6% number in terms of our oil and gas exposure.

And so it's another one of those five to six end markets that we have many of, and it's one of our advantages of being broadly spread across a lot of end markets.

Our view is it really does matter whether you're upstream, midstream, or downstream.

And as we've indicated in a couple forums, we're predominantly downstream.

We think the biggest immediate impact is in upstream, particularly in terms of being on onshore upstream and I think most people have seen that impact already starting to hit.

We think the downstream impacts are more likely to be felt in the second half of the year than the first half of the year.

But having said all of that, our thinking is that you have to be thinking there's a 20% to 25% impact in these - - in kind of the oil activity that's out there.

And so I'm sure you're working your calculator at this point to 6%, it?s about $1.3 billion for Eaton.

I'll save you a couple keystrokes there.

And we think that the strict oil and gas impact is a 20% to 25% reduction.

Now having said that, I think the piece that many people have missed is that there are a whole bunch of end markets that lower oil and gas actually help our customers and our business.

And I think when you look at the light vehicles or the truck market or the aerospace market, or portions of the construction market, those are all aided by it.

So it's not a net-net for Eaton, 25% of $1.3 billion.

But all that's in our guidance for this year to the best that we've been able to approximate a 20% to 25% type impact on direct revenues in that area.

I'll come back your second question, Eli, if that addressed the oil one, which is this issue of do we expect to see growth in ESS this year.

Yes, we do.

And so, no, we expect to see growth on both sides of the way we have split our Electrical business for reporting it, both the products and the ESS business.

Typically the ESS business always starts with a weaker fourth quarter, and when you think about major construction activity and all one has to do is look out the window where most of us are located right now and you see what's lying on the ground, which is what ties up construction projects this time of year.

But we do expect growth on both but because the power quality market is in the ESS, the big three phase portion is that it's probably going to grow a little less quickly than the EPG side will.

Great.

Thank you.

Julian Mitchell, Credit Suisse.

Just a question on the balance sheet usage.

I guess you had said sort of last year that the real scope to use it comes in second half of 2015.

You spent $650 million on a buyback actually the last six months.

So what's left vis-a-vis that $1 billion in the second half, or has your view changed on appropriate leverage levels?

No, our views -- thanks for the question, our views have not changed on the appropriate leverage levels.

I think you'll recall what we said is by the middle of 2015, so end of June, that we'd be in a position to share with investors our more specific plans on what our next capital allocation plans would be.

We said that we thought it would be a mixture of both repurchase and potential acquisitions.

We want to get a little closer to that time and really see what the relative merits of one or the other tend to look like.

It wasn't that we were going to actuate an action or take an action on June 30, but we would be in a position to talk about what we'd do over the second half of 2015.

That plan continues.

We obviously stepped in to buy our shares in the third and fourth quarter when we saw a period of weakness.

We remain quite bullish on our forward prospects, and we think the fact that we were willing to step in and buy 2% of our shares is ample evidence of that.

Thanks.

And then my follow-up is just on the overall segment margins.

They grew about 40 bps, I think, last year, the full year.

This year at the midpoint, you're guiding for about 90 bps or so of increase.

So, if I back out Cooper savings and the restructuring benefits, those I think totaled about 40 basis points.

So it looks like you're assuming underlying the core incremental margin very similar to last year.

Is that right?

And I guess how do you see price and commodity costs affecting that base incremental?

First, Julian, maybe just a little bit of background.

Your numbers are correct.

We were 15.3% in 2014, 14.9%.

So it was the 40 bps you mentioned, and I think within that we recognized we've got disappointments in two of our five segments last year.

We had not hit our original targets in Electrical and SS or Hydraulics.

And so as we look at this year, we tried to provide you a little bit of a range for each of these, but coming back directly to your comment, yes, we do expect this year to achieve the $150 million in the Cooper integration.

Last year it was $95 million.

We've talked about this $35 million of additional savings that we're coming out of the restructuring last year that we did in our industrial sector.

And I would say that when you work your way through that and the Forex decrementals, I think what you'll come out is that we are in the very low 20s in terms of our incrementals this year.

And we think that takes into effect the mix changes that take place in the business.

It takes place -- it takes into effect we think the uncertainties that are generally out there in this environment.

And when things are growing relatively slow, it's a little harder to have higher incrementals but that's our planning at this point.

Great.

Thank you.

Ann Duignan, JPMorgan.

Can you talk a little bit about what you are seeing in Europe?

We've seen all the attempts to spur activity over there and everybody's guiding to nothing happening in Europe.

I'm just curious as to what you guys are seeing by various country and if there are any bright spots.

Yes, there are few candles burning at full power.

I'd say what we see is a lot of confusion.

I'm sure no different than the inputs you're getting.

You see some of these confidence numbers which are up one month and down another.

Clearly the UK has been one of the stronger areas.

France has been very troubled.

Germany when you talk to customers there doesn't sound as bad as some of the economic data does, but somebody's reporting bad numbers.

So I'd say at this point, our assumption is obviously it's going to continue to be a challenged region.

There are opportunities to grow there, if you're serving the right market segments, but from an overall region there's still a lot of challenge to get shaken out during 2015.

Would you anticipate any pickup in exports out of places like Germany just on the weak currency?

Yes, our experience, Ann, is that it normally takes six to nine months in industrial markets for currency to have significant impacts upon trade flows.

Now obviously, it's been falling.

The euro has been falling during the fourth quarter and has really come down obviously very hard here already in the first part of this year, which would lead us to believe that if you're going to see much that, it's going to start to materialize in industrial goods.

I'm not talking about consumer goods but in industrial goods, it's going to be more a second half story than it's going to be a first half story.

And then that context just a real quick followup, Sandy, what about competitiveness vis-a-vis your European competitors?

Are you seeing any pricing -- aggressive pricing in the marketplace?

And I leave it there.

No, we haven't really seen any change at this point.

It's early, as I said, in terms of seeing that.

But, of course then you've got to think about the physical size, and you also have to think about the different standards.

And so that typically hasn't been as big an issue in our end markets.

Okay.

Appreciate the color.

Thanks.

John Inch, Deutsche Bank.

Sandy and Rick, I believe you've talked about a 26% incremental margin read through?

And now it's low 20%s?

And I think you said mix.

Is this a project -- kind of a larger project issue?

Because I would have thought given the environment there?d be deferral of larger project insofar as you've got oil tied and that would actually improve your mix, yet -- or is the placeholder just you're trying to be conservative?

I'm really just trying to understand because your volumes aren't that bad, so why exactly are we sort of three or four points lighter on conversion?

Yes, we had talked about 26% as it pertains to 2014.

In 2015 during the fourth quarter in a number of sessions, we have talked about this being a lower 20%s number.

And so this is very consistent with what our planning had been for 2015.

And it's really a result, John, I would say just about the fact that as growth has been slower, we just see it's a little harder to get at those higher incrementals.

Some may call us conservative.

We think it's appropriate in these times.

There's just a lot of uncertainty around in these marketplaces at this point.

But to Ann's point, there's no -- I have asked you this before.

You pretty much repeated it, but there's no pricing in Electrical or anything else that you're growing more concerned about.

Is that --?

No.

It's not an issue.

Let me say, kind of a structural change in terms of how the market's set up.

No.

Okay.

And then just in terms of I guess we did $0.08 of restructuring in the second quarter.

You've said there's more restructuring coming in Hydraulics.

And then we did, obviously, the share repurchase.

What's in the guide in terms of share repurchase this year?

And then the restructuring and what quarter does it fall into?

Is there any way to know that yet?

In terms of the guide for the share buyback and you recall that we ended the end of the year around 470 million shares, our best estimate is, and this is consistent with our planning each year, is that we've tried to put into our planning basically buying back shares to offset option dilution.

And in many years that's been around $100 million.

So I'd say that's probably your best planning number.

In terms of the restructuring is that, this year as I indicated, that it?s -- we are doing work in our Hydraulics business in light of all the factors we've talked about, and that's going to hit in both the first and the second quarter, and that was why my comments were that expect margins to be lower than the average in the first half and higher than the average in the second half.

Okay, but in terms of the $0.08, do you have any sort of a -- is it like half that rate split in Hydraulics between the two quarters, or is it just -- you just don't know yet?

The only reason, John, we called out a number last year is that we pulled forward restructuring that we hadn't planned on doing in the year after we'd given out our guidance.

Our guidance every year has normal restructuring, it?s just part of running the business, and we haven't broken that out because we really regard that as just a cost of doing the business.

And that's very much this year, so it's not different than the total we do in the Company every year.

It's just going to hit that segment in a way that you'll notice it in the first and second quarter.

Right.

So in other words, the second quarter should actually get helped because you're not calling out specifically the $0.08.

So in theory, you've got less restructuring in the second quarter.

Is that fair?

Yes.

I think that's a fair interpretation.

Yes.

Okay.

Great.

Thank you very much.

Steve Winoker, Bernstein.

Could you just maybe provide a little bit more clarity on the ESS margin dynamic again?

Just refreshing where we are on pricing mix and freight?

Some of those issues that you had talked about and the sustainability going forward?

Sure.

I think as many people recall that when we had the poor results in the first half of 2014, we were dealing with three things: some pricing dynamics, some freight issues, and some efficiency issues in terms of having had weak levels of bookings.

I think what you saw in the second half is we consider those three things largely addressed or cured if you will at this point.

So we're jumping off the second half of last year.

Now we think in a healthy condition.

My comments about how this year would lay out is that we would always encourage people to look at the previous two quarters of bookings as an indicator for what sales are likely to be in the third quarter or the successive quarter.

And because we've had two quarters of bookings now, they were flat in the fourth quarter.

And they were just 3% in the third quarter 2014.

That's going to mean the year is going to start a little slower than if we had had a 5% and a 7% the two quarters before, as an example.

My last comment was that remember in the seasonality of our businesses, for all of Eaton, the first quarter is always the weakest quarter and obviously you get that indication from our $1 overall midpoint of our guidance versus the overall $4.90, but it is particularly usually weaker in the Electrical Systems and Services business because it's a lot of large construction activity that it doesn't tend to get put in place as much in the quarter.

So those are -- that would be the windage I would give you on thinking about the first quarter there, and all this is in our guidance of the $1.

Okay.

And maybe just a little bit of thoughts on the tax side again.

I know you've already prepped us for the 9% to 11% this year.

But as you think now about your visibility of tax rate going forward, how are you thinking about that over a longer term?

Should we be confident that we're in the ?- kind of a reasonable zone assuming no policy changes at this point?

Or how are you thinking about that?

Let me, Steve, give you a little color on it.

First of all, the rate in 2014 ended up exactly where we thought, other than the R&E tax credit, which was reenacted at the end of the year.

That's what pushed it down to 5.2%.

But if you recall, we've been saying it would be 6%, and so we ended up right spot on.

For 2015, mainly because of mix issues, the rate is going up to this 9% to 11% and absent major changes in tax law, it is not likely to change dramatically.

It might move a point or two from this 9% to 11%, but not likely to move a lot.

Now there could be changes in tax law.

That's very hard to get one's arms around, as you know.

There have even been various things mooted recently about that, but absent the changes on the tax code, not likely to be big changes.

Okay.

Great.

I'll pass it on.

Thanks.

Jeff Hammond, KeyBanc.

So Sandy, just back to the ESS, I guess what gives you the confidence that things do improve in the second half?

Do we expect these projects to break free?

We can't specifically comment on individual -- projects per se, but it's our sense from what we see out there being worked upon, what we're quoting upon, if you follow the Dodge reports and activities, that this stuff will start to break loose.

We obviously saw that happen last year if you looked at the pattern, as well.

It always generally looks thinnest about this time of year.

But we come back to nonresidential construction.

Our view in this year came out a little stronger than I think most people thought it would have in 2014, and we think this year again that we are likely to see this be a mid-single-digit type number.

The kind of industrial MRO activity is pretty solid through here.

And so that's what it's based on is our view of non-res being a big influencer and industrial continuing to be strong.

Okay.

And then good color on the oil and gas.

Is there a way to carve out how you saw order rates trend, at least qualitatively within your oil and gas facing businesses?

We really to date have seen very minimal impact.

We've spent a lot of time talking to customers at the multi-different levels of the oil and gas industry, and that's where we say looking forward, we think it's prudent to assume that we're going to see this kind of 20% to 25% impact, but not much of it has been felt at this point.

I do think you see a very different profile between upstream and downstream in terms of both how hard they will be hit and also what the timing will be that you'll feel this upstream will be a bigger hit and it's going to happen sooner.

The downstream is -- obviously has to be hit to some degree, as well.

But it's probably going to be out a little bit further, and clearly you're seeing a lot of announcements being rolled out here during just the last couple weeks, so this is a fairly dynamic topic.

Okay.

Thanks.

Nigel Coe, Morgan Stanley.

Just wanted to focus a little bit here on cash flow, and you've obviously provided the guidance, Sandy, but in terms of pension contributions and cash taxes, can you maybe just provide a bit of color on those two items, please?

Sure, Nigel.

I'll ask Rick to hit those for you.

In terms of pension contribution, Nigel, we are going to be putting in about $40 million less into our US plans this year than we did in 2014.

That obviously is one of the factors that's helping cash conversion.

Also we think cash tax is based on our best view of it -- is likely the difference between cash and book taxes, and it was about $140 million difference in 2014.

We think that will likely be about half that in 2015.

And so those are two of the factors that are improving our cash conversion.

But frankly an even bigger factor is that our working capital consumed about $260 million of cash in 2014, and we expect it to be about neutral in 2015.

And so those are the three big elements that improve the cash conversion ratio in 2015.

Rick, what's driving that dramatic improvement in working capital?

Well its -- first of all, sales are supposed to be or expected to be largely flat.

And typically with flat sales, you wouldn't expect to see a significant change in working capital.

And then secondly in 2014, because some of our markets did turn out to be a bit different than we had planned for at the start of the year, we have had a bit more inventory than we had expected.

And so it's really those two factors: flat markets plus working down some of the inventories.

And one more, if I could, which is obviously the integration.

We did build inventories purposely during 2015 while we've been moving these over 20 factories that are part of the integration of Cooper, as we've shared with you earlier, and these schedules have not changed.

We expect to have most of that work done by the middle of this year, and obviously it makes good sense to take the safety stocks off.

That's really helpful.

And just a quick one on the Cooper synergies, you mentioned you're on track.

And 2015 guidance is in line with your previous guidance on Cooper synergies, but has the mix between revenues and costs changed at all?

No.

They're the same numbers as we showed you last year.

They're very close to that.

And in our February meeting in New York, I can't remember whether it was the end of February or early March, but the one that occurs right at that time period, Tom will take you through a pretty detailed review of how we're doing against each of those buckets, both on the cost side and the revenue side.

But I don't think there will be any surprises in that.

I think you'll really be pleased to see the level of achievement.

Great.

I'll leave it there.

Thank you very much.

Jeff Sprague, Vertical Research.

On cash flow again, I understand the improvements year over year.

Rick, it still looks like you're converting though, maybe a touch below 100?

Which just strikes me as a bit low, given kind of how much amortization there is.

Is there some other kind of operational use of cash or something, or could you bridge us to the conversion?

Well, Jeff, we expect it to be right around 1. Maybe it's 0.98.

Maybe it's 1.0 but it will be right around 1. And in addition to the three factors that I mentioned to you, namely that we still think that cash taxes are going to be a little bit higher than book taxes; pension funding is a little bit above pension expense; working capital, we think, will be relatively neutral but we are expecting that CapEx will be about $100 million more than depreciation.

And we are capacitizing various programs.

I have several new products that are being introduced, and so those are the major factors that help you understand how the amortization, which is the amortization of intangibles, which is obviously non-cash is being offset to a certain extent.

Appreciate it.

And then just to follow up on oil and gas, Sandy, perhaps it's just coincidental, but about 6% of sales is about how I would size Crouse-Hinds.

Is that how you're defining oil and gas or are you parsing down through exposures in hydraulics and other businesses that would be exposed to oil and gas?

I appreciate the question, Jeff.

The Crouse business is not 100% oil and gas.

In fact, it's quite a diversified business.

I think a number of people have had the impression that Crouse was 100% oil and gas.

Cooper had done a good job and we've also taken that franchise into other ends, so this is the total.

Our 6% is the total of looking across our Hydraulics and our Electrical business and trying to get a sense for where some of our vehicle businesses may be impacted there, as well.

So we take Crouse into a whole variety of other harsh and hazardous applications, as well.

Thank you.

Josh Pokrzywinski, Buckingham Research.

First question on price costs as some of these raw materials have come in.

When should we start to see that show up in the business, giving natural or financial hedges that you guys use?

I think the relationship is always what happens to net-net commodity and price impact?

And in a number of our markets, prices do end up adjusting to what happens in commodity, so we think there'll be a very small positive for us this year and it is in our guidance at this point.

But you've already seen whether you're looking at some of the metals, diesel fuel hasn't come down as much as obviously the traded numbers for WTR at this point, but some of metals have come down.

But those tend to get adjusted fairly quickly in terms of prices in the marketplace.

Got you.

And I'm assuming you guys will still be able to hold onto the net price in the Electrical businesses where you consume most of that?

Yes.

And I think as you can see that our margins, we are expecting to increase this year.

And then just to follow up on that comment around non-res that you made earlier, Sandy.

I think in years past where you guys were maybe a little earlier than the rest on non-res in terms of seeing that recovery in your business, probably attributed most of it to more industrial than construction type verticals.

If we see some of this oil and gas weakness spill over into other industrial pockets, and continue to see construction get better, is the push and pull of that a neutral, or is the construction piece with Cooper now outweigh the more industrial side of Electrical?

Actually, our balance when we bought Cooper we became a little less sensitive to non-res because Cooper had a bigger industrial orientation, and part of that included oil and gas, part of it was just general industrial.

But we're a pretty good, as I said in a couple different settings, we're a pretty good surrogate for the overall non-res exposure because we've got good participation in each of these segments.

So our real interest is in continuing to see that number increase total non-res.

And that's the real driver for us more than any one of the individual segments.

Got you.

That's helpful.

Thanks.

Andrew Obin, BofA Merrill Lynch.

Just to poke in more on agriculture, do you guys forecast any difference based on the production schedules between the spring selling season and the fall selling season?

I guess what I'm trying to get at, A, is there any difference between tractors and combines, and B, are we sort of at a point where we're starting to hope that this is the bottom?

I think our best view on this, we talked a little bit at the end of the third quarter, Andrew, is that we didn't believe it was going to be one crop season that was going to define recovery.

We thought that based upon past downs it normally takes two to three crop rotations to get you back to a point, and that to us said that we would see all of 2015 be weak and that 2016 might start weak.

And now that obviously informs part of our thinking as to why we're doing additional restructuring in our Hydraulics business, as well, so we don't expect to see a real quick snap back in this regard.

And it really doesn't matter whether it's planting or whether it's harvesting.

The big equipment is getting impacted.

So your high horsepower tractors and combines are both getting hit pretty hard.

And the second thing just to follow up on Aerospace.

It seems that most of the companies that have provided outlook so far are not really baking in a significant recovery in the spares business due to low energy prices.

What's baked into your outlook for your Aerospace business, particularly in the second half of the year?

You may recall that our business is, if I went back four years ago was a business where 60% of the business was OEM and 40% was aftermarket, and obviously that mix is important.

The last couple of years we've been running at 65% OEM and 35% aftermarket.

We do not expect that ratio is going to change in 2015, so that we stay very much at the 65% OEM, 35%.

So that means our aftermarket's not growing at much of a difference in the overall market forecast we have.

Terrific.

Thank you.

Mig Dobre, Robert Baird.

Sticking with Hydraulics, this is the second quarter where you kind of call out a massive difference between distributor and OEM orders.

I'm wondering, how sustainable is this?

And in your experience, does one end market have a tendency to lead the other?

I think the biggest piece that's really flowing through distribution tends to be more of the industrial and then aftermarket into a couple of these markets.

Generally the change, if you're looking for someone who's serving the mobile market, distributor that serves the mobile market, they might be three to six months behind the OEM.

But I think in this case, the real dynamic to keep in mind here is think about the end markets.

The ag market's going to be weak; the mining market's going to be weak; the construction market is very regional at this point; and then industrial's pretty good around the world, and that's the way we're trying to think about it.

And again, I'd say part of the reason I gave the heading on the businesses when I went through, let?

remember Hydraulics is about 13% of the Company.

Sure.

That's helpful.

And then for my follow-up, maybe back to ESS, I remember a couple years ago, you setting some margin targets there around 16%.

And obviously we're still a long ways from that.

And I'm just wondering, how much of the delta your guidance for 2015 versus that target was owed to maybe volume really not being what you expected it as opposed to the Cooper synergies flowing a little bit different than you expected initially?

I don't know that I can parse that for you.

I think we said at the end of the second quarter last year that was a slower start we had had last year that we thought get to the original targets that we had set a number of years ago for 2015 would be a taller putt in both our Electrical Systems and Services segment and our Hydraulics area.

And that's indeed, I think, what's reflected in our guidance at this point.

So I think we're going to have a solid year of improvement again in Electrical Systems and Services this year as we will overall for the Company, and that will be true in every segment except Hydraulics where we're saying that midpoint of that range is actually less than what we achieved this year for all the reasons I mentioned.

All right.

Thanks.

Shannon O'Callaghan, UBS.

On residential, the up 15%, another robust outlook there.

It's been a choppy market in some ways.

Can you just fill out your thoughts on the optimism there?

Well, I think we still believe when you look at the big issue is what's going to drive the demographics over time.

And all the home formation numbers tend to continue to support a market that's on the order of 1.5 million starts per year.

We are clearly a long way from that still.

We've seen a lot of activity in aftermarket.

That's -- this is the kind of retrofitting and home repair.

That's been quite strong.

But we're seeing a fairly steady, if you don't look at the months and you don't look at quarters, if you look at the years, you're seeing a fairly steady recovery in terms of bringing back single-family in the country.

Interest rates are still very low and as you put more money in the pocket of the consumers with lower gas prices, this is one of the areas that's going to tend to be helpful, because people have got more money for a mortgage.

And so we do think this ties together, and it's an example of one of those areas that is benefited by lower gas prices.

And it's obviously a pretty big disconnect with the outlook there and the outlook for utility.

Do you see that gap closing at some point?

I think you said utility up 1. At some point, would you expect utility to follow with those trends you're seeing in residential?

Historically, portion of it would, but the utility market's facing some fairly severe capital challenges currently, and the rate increase market -- the rate increase environment has not been terrific here in the US.

So where we see most of the money being spent is really is in improvement of efficiency and then recovering from storms.

It's not been in terms of putting whole new capacity in place.

And so that's the struggle, and I think you can get a lot of good information at Edison Institute that speaks right to this issue.

Okay.

Great.

Thanks a lot.

Deane Dray, RBC.

You've given all kinds of good color about direct oil exposure.

But you've touched on a couple different times the benefits in the offsets from lower oil.

We just heard your answer to Shannon's question about residential mortgages.

And earlier you zipped through all the different businesses that would have a benefit.

But maybe just could you be just a bit more methodical in terms of what's in your 2015 guidance in terms of those offsets?

Fuel, lower input costs, and maybe is copper going to be a benefit?

And that would be helpful.

Thanks.

We don't go down into all that detail, Deane.

I think maybe the way to think about it though is what are some of the markets.

I talked to resi.

We do think this also has an impact, obviously, in passenger car.

And it also has an impact in the mix within passenger car, because what you're clearly seeing is a move very quickly back toward larger SUVs and light trucks, which have a higher content freight then passenger cars do.

We do think it affects what goes on in heavy duty truck because diesel prices will come down.

They haven't come down as far yet.

They've been a little sticky in that regard.

But that's going to affect the ability of obviously truckers, their margins, and their ability to, obviously, buy new trucks as well.

We think on the Aerospace side, it?s clearly it's depreciation and fuel.

Those are your two big drivers there again, and so we think good for it.

So the way we?ve tried to think about this, Deane, is looking at not just the negative in terms of upstream, midstream, downstream impact on oil and gas, but are there sufficient points of exposure for Eaton to other markets that will have a benefit.

And as a result, we think this is largely a neutral impact for us but it's going to lead to some pluses in some of our businesses and obviously to those businesses that ship capital equipment into oil and gas.

Those are going to be a negative.

And how about copper specifically?

Well, copper, again, we tend to have it tied to a lot of different contracts, so we don't tend to make a gain on copper when it goes up or down.

Got it.

Just last question.

You led off with some pretty heady gains in your LED business.

Can you separate how much of that is -- is it all retrofits and maybe what inning are we in the whole LED retrofit conversion?

It's very different by individual end market, whether it be street lighting or parking lighting, or indoor retail.

We still think that the big piece of the market both in terms of new installation, as well as retro is the recessed lighting markets that have traditionally been think of your commercial office building, as well.

And that's where we're just so excited about this wave stream technology that we've had in the market almost two years now, and it's just doing extremely well in all the various different styles that we have it out in.

So we continue to think that there's real potential.

We think LED is going to be the technology that really does rule in lighting, and we've got some really unique advantages in that regard, and that's why you're continuing to see us grow at such strong rates.

Thank you.

Chris Glynn, Oppenheimer.

I think you had some -- on taxes, I think you had some discrete benefits in 2014 moving up to the 9% to 11% range.

Would you consider that fully normalized or longer term?

Is there a path more to the mid-teens at this point?

Well, Chris, we think the 9% to 11% rate is relatively pure in that it doesn't really have significant discrete items.

Now as I mentioned earlier, it's always possible as mix continues to shift that perhaps the rate would change a point or two.

But we don't see a C change in the rate absent changes in tax regulations.

Okay.

Thanks.

And then just on FX, the 4% overall, would you be able to kind of tilt that by segment?

We generally have not.

I think if you look at where it hit in the third quarter, that relative kind of weighting where it hit, that's going to be a pretty good indication to think about how it'll be next year.

That gives you a pretty good exposure for what the US versus non-US load is in each of the businesses.

Makes sense.

Got it.

Thank you all.

We've reached the end of our call today.

We do appreciate everyone's questions.

As always, I'll be available to address your follow-up questions today and later this week.

Thank you for joining us.

Thank you.

And, ladies and gentlemen, that does conclude our conference for today.

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

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