伊頓 (ETN) 2016 Q1 法說會逐字稿

Ladies and gentlemen, good morning.

Thank you for standing by and welcome to the Eaton first-quarter 2016 earning conference call.

(Operator Instructions)

As a reminder, today's conference is being recorded.

I would now like to turn the conference over to our host, Senior Vice President, Investor Relations, Mr. Don Bullock.

Please go ahead.

Good morning.

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

Thank you all for joining us for this morning's first-quarter 2016 earnings call.

With me today are Sandy Cutler, our Chairman and CEO, Craig Arnold, our President and Chief Operating Officer, and Rick Fearon, our Vice Chairman and Chief Financial Officer.

The agenda this morning is going to include opening remarks by Sandy, highlighting the performance in the first quarter along with the outlook for the remainder of 2016.

As we've done in prior calls, we'll be taking questions at the end of Sandy's comments.

The press release and the earnings announcement an the presentation we go through today have been posted on our website at www.Eaton.com.

Please note that both the press release and the presentation do include some reconciliations to non-GAAP measures and a web cast is accessible -- a web cast of this call is accessible on the website and will be available for replay later in the day.

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

Any of the areas of uncertainty around those will be outlined in our 8-K.

With that, I'll turn the comments over to Sandy.

Great, thanks, Don.

Good morning, everyone.

Thanks for joining us.

I'll be working again from the presentation that was posted earlier this morning.

Why don't we turn to page 3. It's entitled highlights of Q1 results.

I think as you saw from our earnings release, our quarter was slightly ahead of our original expectations, coming in, in the upper half of our range.

It positions us very much on plan for our full-year guidance, and really not much has changed in terms of our view of either how markets will progress this year, we're seeing the economy, nor how we see our prospects for this year.

You saw the operating earnings per share were $0.88.

Our sales of $4.8 million(sic-see press release �$4.8 billion�) were down 8% from a year ago.

Organic revenue was down 6%.

You may recall that as compared to the fourth quarter we had said that we'd expected our first-quarter sales to be down about 5%.

We actually came in a little bit better than that.

And then a ForEx impact of down 2%.

Really strong segment margins, exactly in line with what we'd outlined in terms of our guidance.

When you exclude the restructuring costs part of our three-year restructuring program, margins were actually 15.1%, really quite strong for our business mix in the first quarter.

Very pleased with our cash flow in the first quarter, $371 million.

We were able to purchase back $100 million.

You'll recall our full-year plan is a $700 million buyback and then we announced the dividend increase, a 4% increase, in February.

If you move on to page 4, just a comparison to our guidance, pretty simple.

Higher revenue than we expected, primarily organic, a little bit FX for $0.02.

And then we did spend a little bit less than we had anticipated.

We had shared with you that we were going to spend on the order of $700 million in the first quarter for restructuring expense.

That total came in closer to $63 million, so that contributed about a penny.

As I'll mention in just a couple minutes, we do expect to spend those dollars later in the year, and I'll come back and talk a little bit more about that.

But overall $0.88, a great start for the year.

Turning to page 5, I think you saw most of these numbers in the press release.

I would remind you that our fourth-quarter volume, fourth quarter 2015 was $5.057 billion, so as you can see, came off just a little bit less than the 5% we had guided to.

Our organic growth in the fourth quarter was 4%.

Here in the first quarter it was a negative 6%.

We anticipate this is the worst quarter in terms of the year over year.

You know that our full-year guidance is a negative 2% to a negative 4%.

Clearly, the comparisons in the second half get quite a bit easier than they are here in the first part, first part of the year.

If we could flip to the individual segments now, and we'll start with the electrical products segment.

You find that on page 6 of the packet.

Clearly, a very good quarter.

A number of you had commented on that already this morning, that we're very pleased with the 16.1% operating margin, 17.1% without restructuring costs.

If you look at our organic sales growth, it was zero or flat this quarter.

It was a negative 1% last quarter.

We're encouraged that our bookings in the first quarter were 2%.

You may recall that in the fourth quarter of last year they were a negative 1% and they were flat in the third quarter of last year, so a little bit of an acceleration.

As you look around the world, and I'm sure you're all interested in terms of trying to understanding the tenor of the business and where the strength or weakness is around the world, the US continues to be stronger than that average of 2%.

We're very pleased with what we saw.

EMEA began to tick up a little bit, and I think that's in line with what you saw in some of the releases last night and early this morning about more economic strength in the European region.

The weakness continues to in Asia, where we've seen the double-digit downs in Asia and I think not only us, but you've heard from other companies, conditions in Asia continue to be quite weak.

Among the individual products, we had talked to you that generally the theme that we've been seeing over the last nine months has been weakness in industrial markets, more strength in residential and non-residential construction.

We actually had a very good quarter in our single phase power quality and I'll comment when we get to systems and services.

We also did an NR3 phase in that area.

If we flip to the next chart, please, which is chart 7, electrical services and services segment, a volume of $1.342 billion, down about 10% from the fourth quarter.

You'll remember the fourth quarter was $1.494 billion.

I think as we've told you, a good way to think about this segment in terms of shipment and prospective shipment volumes is to look at bookings.

Bookings were down 2% this quarter.

You'll recall in the fourth quarter they were also down 2%.

In the third quarter they were down 3%.

We continue to see a weakness here, and a number of it traces to some of the macros that we've all discussed.

Our Crouse-Hinds business that has a significant oil and gas exposure is in this segment.

Some of the large industrial projects that we would tend to work on are in this area.

We continue to see those weak as well.

As we continue to look to the year, I'll talk to you a little bit about segment margins.

We started off a little lower than we'd anticipated we might, that's why we've revised our margins for the year.

I'll comment more on that as we get through the next couple charts.

Within the regional area, again, the US and EMEA being the stronger areas, the far weaker areas being Asia-Pacific at this point, so a common theme, and you'll hear that in a number of our businesses.

Moving to the next chart, chart number 8, or page 8, our hydraulics segment.

Sales of $551 million, virtually flat with what we saw in the fourth quarter.

You'll remember it was $552 million at that point.

You'll see the operating margins of 7.4%, and when you exclude the restructuring 10.3%, obviously we're doing a lot of work in this segment as we had shared with you, and as Craig and his team had outlined in our February New York analyst meeting.

The organic sales down some 14%.

You'll recall they were down 12% in the fourth quarter.

Bookings down some 10%, and here we saw weakness in the US as well as in Asia-Pacific.

I don't think the story is much different here in terms of our seeing weakness both on the distributor and on the OEM side, and we've seen weakness both on the stationary and the mobile side.

So to the question that we bottomed in our hydraulic end markets, we don't have the visibility to see that it has bottomed at this point.

We're comfortable and we shared with you some revised views of market growth in this area, and so our plan is very much the same, to continue to restructure this business during 2016 and not to count on an upturn in terms of volume.

Turning to page number 9, our aerospace segment, volumes up just slightly from the fourth quarter, down from a year ago.

But really, terrific, terrific results in terms of our operating margins: 18% in the quarter, 18.9% without the restructuring.

Very solid second quarter in a row, bookings up 6%.

Our after market was down in this particular quarter, but we really believe that's much more of an issue of having had a very large quarter of after-market bookings in the first quarter 2015.

We don't think this is a trend.

We think it's really much more of a comparable issue.

Organic growth was down 3%, obviously -- excuse me.

It was a positive in the fourth quarter of about 2%.

So a little lower growth, but really strong margins and strong, strong bookings.

If we turn to page 10, our vehicle segment, clearly we're beginning to see some of the impact of our original forecast of the North American heavy-duty truck market coming down to 250,000.

We've actually now changed our full-year forecast of it's coming down to 230,000 units.

Had a first quarter that was relatively strong, but -- and we can talk more in the Q&A, as we've seen production schedules and orders progress into this year, it's our sense that this market is going to be closer to the 230,000 range than the 250,000 range.

All this is already in our guidance.

Strong margin performance.

You see the organic sales down some 13%.

You'll recall they were down 6% in the fourth quarter as we've begun to see this kind of roll over, if you will, in the heavy-duty market.

If we move to the next page, page 11, no change in terms of our view of total organic revenues for this year.

Still, we believe they'll come down 2% to 4%, obviously with the first quarter of down 6%.

This does anticipate, and we do believe, that we'll see much better comparisons as the year come on, so this is kind of center point of a negative 3%.

As we look at our first-quarter experience and our update of looking at individual markets, you'll see two changes on this page from the guidance we provided you earlier this year.

We've raised the guidance in terms of organic growth on electrical products, a great first quarter.

Residential markets stronger than we'd originally anticipated, those being the two big contributors to our increasing our guidance for electrical products.

Then in the vehicle markets, really two changes there, that the North American heavy-duty markets I mentioned to you, would be down at about 230,000 units of production versus the 250,000 we had originally anticipated.

That's about a 29% reduction, the 230,000 over last year.

And then Latin America continues to be weak and clearly we all are, I think, up to date with the tremendous problems in Brazil currently, and that's done nothing but weaken markets further.

Those really being the two changes within the vehicle market.

Overall, still 2% to 4%.

A quick update on our restructuring actions on page 12.

You'll recall, again, a three-year program.

The work that's going on by teams all across the Company, really well done, keeping very much to our schedules.

We did, as I mentioned in my original comments this morning, we incurred about $63 million of restructuring expense versus the guidance we had provided you of roughly $70 million.

We really have -- that, that expense of that $7 million will move out to the second half.

We've got one project that's really moved from the Q1 to Q3, but overall we think that we will still be at about $140 million for restructuring costs.

As you look at that $42 million in the second half, just to give you some sense for pacing, we think about 70% roughly of that is likely to be in the third quarter, with the remaining roughly 30% will be in the fourth quarter.

Importantly, our overall year-to-year incremental annual benefits of $185 million remain unchanged.

Some of you may ask how can you have a project move out and it doesn't change your overall benefits.

Remember that these incremental $185 million of savings included both carryover benefits from actions we had taken last year in 2015, as well as the new actions we've taken in 2016.

It was in that overall mix that obviously our project is moving ahead and back an quite a lot of activity.

Overall, though, we're very comfortable with $185 million still being realized here in 2016.

On page 13, titled segment operating margins expectations, I'd mentioned to you we'd made a couple changes here that relate to changes really what's going on in the market.

Again, our electrical products that you can see, we've moved our guidance up to 17.4% to 18.0% for margins after the very strong first quarter that we've had.

You recall it was 17.0% to 17.6%.

In our electrical systems and services, we've moved down to 13.1% to 13.7%.

It previously had been 13.7% to 14.3%.

Really just a couple items driving that, a little bigger commercial mix, a little weaker industrial mix and continued pressure in the oil and gas markets.

No change in hydraulics.

No change in aerospace.

And then our vehicle business, we've move it down to 16.2% to 16.8%.

It was 16.7% to 17.3%, and that's really the impact of the 230,000-unit production for NAFTA heavy-duty class 8 versus our earlier forecast of 250,000.

Looking ahead to the second quarter, after what we think is a very solid and good start to the year in the first quarter, page 14, it's entitled EPS guidance.

Second quarter our guidance is, the range $1 to $1.10 operating EPS and it's virtually the same as net income because we don't have acquisition restructuring expense.

Organic revenue sequentially moving up 5% from Q1 2016 to Q2 2016.

As we've talked the last couple years, that is a pretty normal seasonal for us, that 5% step up from the first quarter to the second quarter.

The first quarter is always our weakest quarter in terms of revenue.

And then we would expect this FX is turning out to be less than we had forecast earlier this year, that we would expect we'll get about a point bump up from Forex to, so likely revenue is up on the order of 6%.

Segment margins, including all the restructuring expense and the restructuring benefits as well as the incremental on the higher volume in the second quarter, between 15% to 16%, and a tax rate that will be between 10% to 12%.

Our guidance for the year remains unchanged and each of the comments underneath the guidance on this page are the same that you saw from us in our first quarter guidance, so no change there, as well.

If we move to page 15, the 2016 outlook summary, again, only changes that you find on this page, really no changes on this page.

We've just had some change in what I call the mix under a couple of these numbers.

Once again, the operating EPS for this year is flat with a year ago and then the net income per share is up some 2%.

If you move to page 16, quick summary of our report today, again, we think a really strong start to the year, solid first quarter, record first-quarter cash flow and continuing to buy back shares as well as, obviously, have a dividend increase.

2016, as I mentioned earlier, we really don't see the year much differently than we did when we laid out the guidance for this year, laid out our operating plan.

That's why we're continuing to work on our $400 million restructuring plan and the $3 billion share buyback plan, because we think they are exactly what's needed during a period of this type of economic weakness.

We've tuned two things within 2016.

One is the modestly weaker NAFTA heavy-duty production forecast and the second is that we think Forex is now likely to impact our revenues by a negative $200 million versus the original negative $400 million.

I'm sure we'll have questions about why our EPS full-year guidance hasn't changed, and a very easy way to think about this is roughly the reduction in the ForEx, a negative impact on sales and profit basically offsets the lower market expectation now for the NAFTA heavy-duty truck forecast.

Restructuring program, just full of good news here.

It continues to be very much as we thought, being able to realize the potential.

Our teams are really creating great results around the world and our full-year incremental benefits remain unchanged at $185 million and the costs remain unchanged at $140 million.

As I said several times already this morning, our capital allocation plan to buy back the $700 million shares following the $682 million that we bought back last year remains unchanged.

Don, I'll turn things back to you.

With that, I'll turn it to the operator, who will then provide instructions for our question-and-answer session.

(Operator Instructions)

Our first question this morning comes from Steve Winoker with Bernstein.

Hey, thanks and good morning, everybody.

I appreciate you moving that with lightning speed.

Sandy, I want to of course start by congratulating you.

This might be your last earnings call as CEO, retiring and moving on, so fantastic.

I think the stock is up like four times since you took over or more, so well done.

I guess I'll just start also with tax and the treasury rules and regulations.

Haven't really got a clear picture on how you're thinking about how your tax rate may be impacted by this timing of inter-company loans, et cetera, on a prospective, go-forward basis if those proposed rules become final.

Thanks, Steven.

I'll ask Rick to pick that up.

It's obviously something we've given a lot of consideration to.

Hi, Steve.

We've obviously studied this at some depth, and the conclusion we come to is that we don't see any material financial impact to Eaton from the new regulations.

We believe our guidance for 2016 will not be impacted, and in fact, the guidance I gave on the last call, longer term, which is a tax rate between 10% and 15% with the rate stepping up slowly from the 9% to 11% for this year, we think is still the appropriate guidance for later year.

In sum, we don't see any material financial impact from the regulations.

We do, however, see the need for additional administrative actions to meet the documentation requirements for the new regulations for new debt that you put in place.

I think as you know, the regulations only impact new debt.

They don't impact debt already in place.

But those administrative actions won't have any material financial impact on Eaton.

Okay.

That's good to hear.

Could you maybe dig into the electrical product improvement that you're seeing?

I'm trying to get a sense also for what is -- and this probably goes for some of the other segments, what's comps driven versus really fundamental demand changes?

In this case, obviously LED penetration, large projects, maybe just give us a sense for where the strength is business wise as opposed to just geography?

I'd be glad to.

As I mentioned, a couple areas, clear the residential businesses have been doing very well for us, and so that's both in terms of the load center circuit breakers, pull outs as well as wiring devices.

Lighting continues to be quite strong.

The single-phase power quality, which we report in our electrical products area, has been strong as well.

And then it is helped that what we've seen over the last couple years is we've seen strength in these areas in the US but hadn't seen much strength in Europe in that regard, and Europe's had a far better quarter in that regard as well.

I would point to those as being the areas of real strength.

The areas that have offset it, because you look at 2% and say that's not the kind of growth we were seeing a couple of years ago, have been at still the industrial markets, so that's both industrial MRO and industrial OEM, continued to be the weak spots.

We see that in a number of our products we sell directly into those markets.

Okay.

All right.

Thank you.

I'll pass it on.

Our next question comes from Ann Duignan with JPMorgan.

Hi, good morning.

Good morning, Ann.

Can we dig into the vehicle business a little bit, Sandy or whomever wants to address it?

That business, the Brazil piece is trucks and agricultural.

Can you just talk about what you're seeing on the fundamentals of both of those businesses, either of them reaching trough?

Any signs of life down there in those end markets, please?

Yes.

I think the signs of life is maybe the right way to describe it.

Obviously, the political and economic situation is so difficult in the country right now, and to say that we've got better transparency than anybody else on what's going to happen there would way overestimate our capabilities to have those insights.

We continue to see this year as a year that is actually declining in Brazil.

Our view of Brazil at this point for our vehicle markets is, as I mentioned up front, worse than it was starting the year, so, no, we are not seeing a turn in Brazil.

Okay.

Thank you.

And then just as a followup, Asia is a large place.

When you talk about Asia across your different businesses, is it all China or is it any other markets that are worth noting?

I think China is clearly one of the big players in that regard, and you know we have for several years felt that the China economic data was a little bit more bullish than we were actually seeing at the street level.

That continues to be true.

But we are not seeing our business in China growing at this point.

In effect, we've seen it pull back slightly.

When you get into certain segments, you're seeing in our electrical business, for example, some of the utility activity in China has pulled back, and in our vehicle businesses, the markets on the light vehicle side have stayed relatively strong.

They've been pretty choppy in the commercial vehicles over the last couple years.

That's probably the biggest piece.

I would say that Asia in general has not been strong during this time period.

Craig, would you want to add anything to that?

I think you've covered it.

I think it's maybe a green shoot or two in terms of what's going on in some of the hydraulic markets.

It's early to call that we've hit a bottom, but we certainly saw in the month of March and probably some of the other data that you' follow as well that perhaps some bottoming in some of the construction equipment markets in Q1.

But once again, probably too early to call if we really have reached a bottom or not.

I'd say the one area I may be -- didn't mention, Ann, is that the aerospace markets really outside the US, and that does include Asia, have remained strong.

Right, thank you.

That was pretty broad.

I'll leave it there.

Thank you.

Our next comes from Julian Mitchell with Credit Suisse.

Hi, thank you.

Just on the vehicle segments again, obviously you went through last year in hydraulics and each quarter you were cutting the sales and/or the margin guidance as you went through the year.

One quarter in for vehicles, you've cut the sales and the margin guidance.

I guess, what issues do you think are different for this year when you're looking at vehicles, guidance and the assumptions behind it versus where you were on hydraulics one year ago?

Maybe I'll grab that one, Sandy, if you're okay with that.

I'd say, Julian, the big change for us in vehicle this year is really centered largely on North America class 8 truck.

The other markets by an large are performing as we anticipated.

The light vehicle market in China is doing fine.

Europe in light vehicles is doing well.

As you probably saw in some of the data, we're not a big player, but the truck market in Europe is doing well.

Yes, we had some -- perhaps a little bit of another leg down in South America, but at this point the denominator is so small that it really doesn't matter a lot.

Really it's a function of the North America class 8 market.

Coming into the year, we had a 250,000 number out there for the market which was, quite frankly, one of the weaker numbers of anybody forecasting the market, and coming into the earlier part of this year, it appears that we have about 20,000 units of inventory overhang that's fundamentally affecting the North America class 8 market.

If you take a look at ATA truck tonnage or some of the key markets that are the indicators for those markets longer term, those markets are doing okay, and so we really think we're going through a bit of an inventory correction right now in North America class 8. That's principally the reason we've reduced our forecast.

AT 230,000, we think, once again, we have one of the more conservative numbers out there, so at this juncture, we think we're well positioned in terms of the year and so we don't think this is going to be a case of every quarter another downward revision.

Thanks, Craig.

And then just my followup would be on the electrical businesses.

Just wondered if you saw any change in demand trends as you went through the last few months in any of the major regions or verticals?

Nothing substantial, Julian.

I think more broadly, a number of people, I'm sure, are curious about how did we see March different than January and February.

I'd say that not significantly different than we would normally see first quarter, so we have not seen an acceleration in demand, if you will, that has been unusual in the month of March.

If I go back to the comments that we made right at the beginning of the call is that we see the year laying out very much as we did.

A number of you felt that we were conservative in terms of our economic outlook for this year, but when we see US GDP coming in at the numbers they did the other day, we think it's more confirmation that this is likely to be a slow growth year on the industrial side, and the real premium has to be placed upon getting costs out and then trying to buy back shares.

That's very much what our plan is built around.

Very clear.

Thank you.

Our next question comes from Scott Davis with Barclays.

Hi.

Good morning, guys.

Morning, Scott.

We've seen a bit of a popup in steel prices, copper, things like that, and I think at least in the US your LIFO counting, I think, if my memory serves me right.

Are we at the point in the cycle where you can go out and get price, even potentially a little bit more than just a pass-through, or are we still just trying to get a pass-through here?

And can you get a pass-through, I guess, particularly when you think about things like vehicle or hydraulics?

It may be -- these things are always issues of timing, and as you say, some sort of a lag.

I think we're more -- and I'll ask Craig to comment on it as well.

We're more of a view at this point that we're getting a slight positive in terms of margins, as we mentioned our guidance, this year from the tailwind.

Yes, some things have ticked up, but I think you have to see them tick up a little longer than this before you'd really see price traction from commodities.

I don't know, Craig, how do you feel?

I'd absolutely agree with that.

Despite the fact we have seen a little bit of a tick up in over the last 30 days from a standpoint of a planning assumption, we're still well within, in many cases below, our original assumptions for the year around where commodities are going to go.

At this point I think it will be clearly premature to think about we're moving into an inflationary piece of the cycle.

On balance, as we've said in the past, we think our net between material costs coming down and price are about a net neutral for the Company, and we continue to believe that's where we're positioned.

Fair enough.

I don't think you guys mentioned M&A in your prepared remarks.

At least, I didn't hear it and no one's asked about it yet.

Are there transactions out there that you guys could perceive getting done by the end of the year?

Yes.

I'd say on the M&A front, what we said is from that priority standpoint today, we're really focused on first and foremost investing in our business to drive organic growth.

We think we have plenty of opportunities to do that.

Secondly, we said we're really focused on making sure that we maintain a strong dividend and then we also said a share buyback in this environment where our stock is trading at below the valuation that we think is fair is the priority.

So at this juncture, we continue to be focused on those priorities.

We've committed to buy back $700 million worth of stock this year, and quite frankly, given our priorities right now, we don't think there's going to be a lot of latitude from a balance sheet standpoint to do much in the M&A front.

There's always things that we're looking at on the margin and we'll continue to look, but today that's not the priority.

Okay.

I'll pass it on.

Sandy, congrats in your retirement.

It's been a pleasure.

I'll pass it on.

Our next question comes from Eli Lustgarten with Longbow Securities.

Your line is open, sir.

I'm sorry.

Can you hear me?

Yes.

My best wishes, Sandy, upon retirement and I hope you survive the summer.

Thank you.

We just started talking about -- we're hearing lot of price competition coming in a lot of markets (inaudible).

Can you give us some idea -- there is a lot of the mentality among competitors that nobody wants to lose a deal and pricing is, particularly outside this country, is getting very, very competitive from what we're hearing.

Can you give me some idea -- I know you talked about that you still had neutral, but are we seeing any real changes in pricing competition around the markets?

I think as you'll if you look at our margins in the first quarter, that's may be the best way to give you some sense for it.

I'd say not that we haven't anticipated and with the benefit of all the work we're doing on restructuring, I think you're seeing our decrementals be extraordinarily low.

There's no question when commodities come down, you are going to see some impact.

We talked about that in our last calls, but I don't think it's anything that we haven't really anticipated at this point.

I agree completely, Sandy.

Certainly in the negotiated project piece of the business, there's always, on the margins, some places where you're being more or less competitive and there's some regional differences, but on balance and across the Company, nothing that would not be consistent with the guidance that we've provided.

No indications that anything has changed.

Okay.

Not much going on.

One of the things we're hearing in followup from a lot of companies is, yes, lots of things are getting better, but a decelerating decline across markets.

Is that what you're seeing across anything?

There's no expectation for things getting better very quickly as part of the guidance, but are you seeing things stabilizing and even in the oil an gas sector, the question is when do we anniversary the big declines that things begin more stable across the country?

I think the best way, Eli, to think about our volume forecast for this year is that while you've seen an organic decline for us in the first quarter of 6%, and then I mentioned to you that if you looked at our guidance for the second quarter, and if you were to calculate it versus a year ago because I gave it to you versus the first quarter, it will be less than the 6%.

The comps for the second half get a lot easier and that's how we get to this down 2% to 4%.

Now, that's kind of quarter-to-quarter look, but I don't think we're saying that we're seeing markets begin to accelerate at this point.

We think we're kind of cruising down toward the bottom, if you will, at this point.

We don't see significant market growth at this point.

That's the kind of tough scenario we find ourselves in, in this low-growth global environment and that's why, again, we've put the premium on taking this time to do the restructuring and do the share buybacks.

Thank you very much.

Our next questions comes from Nigel Coe with Morgan Stanley.

Thanks, good morning.

Just wanted to hone in on electrical.

Firstly, just on the systems side, the down 2% to 3% order trends, I guess, over the last two or three quarters, should we expect the revenue growth to re-couple to that kind of cadence?

Second part of that question would be on the Canadian dollar.

We've seen pretty sharp strengthening of the Canadian dollar, and I remember last year you had some struggles with margin deleverage due to that weakening.

I'm just wondering the reversal of that trend, does that help you on the margin front?

First on the volume level and kind of the looking ahead, I do think, as we mentioned, Nigel, you correctly reference it is that looking at our bookings is a pretty good way to think about what's coming out ahead of us in terms of the electrical systems and services segment.

There is a portion of that business that does come in during the quarter and go out and that's the piece that's a little harder for us to forecast.

In some cases that is MRO for the oil and gas area.

That's an area that's a little harder for us to look ahead.

I think we entered this year thinking oil and gas would be down on the basis of 15%.

It's every bit of that.

Whether it turns out to be more than that, I guess we'll know come year end, but even though we've seen oil move up to the mid-$40s, that segment is just not investing right now and they're still very much in a cutting back mode at this point.

It's going to take some time before we see that start to come back in the other direction.

I'd say the other issue for us to keep an eye on here is whether we start to see confidence in and around reinvestment in industrial projects, and we've really not seen that to date and we think that's likely to take more time as well.

You're right (technical difficulty) that's whether.

What is your view going forward on distribution spending in the US?

We did see a little better quarter on bookings, so it comes in obviously in bookings first on the distribution side, so you're correct.

I think you've seen that from a couple of our peers as well.

There are some other issues going on within what we call our power systems business currently and that you may recall there were regulations that were put in place about transformers last year.

It caused sort of a popup in bookings in the fourth quarter, a little bit of an overhang in the first quarter.

We would expect to see that stabilize as we go through the year.

Our original guidance of 0% to 2% for utilities, we did better than that in the first quarter.

Great.

Thank you very much.

Our next question comes from Josh Pokrzywinski with Buckingham Research.

Hi, good morning, guys.

Good morning.

Just maybe just to go back to some of the earlier questions on the complexion of business, Sandy, you touched on not a lot of appetite in the market place for project businesses.

Are you seeing more stability, though, on the MRO and piece parts side?

How would you characterize kind of the price or mix dynamics between those as well?

I'd start -- and let me ask Craig to comment on this too, but I'd say that we'll start with a couple high-level issues.

Construction is better than industrial activity.

Industrial activity either on the user or the OEM side is weaker.

When you get inside construction, construction is better on commercial than it is industrial, and it's strong on residential.

When you get inside commercial, it's better in light commercial than it is in heavy commercial.

T has pretty much been our experience through much of last year as well as we're seeing now.

So no, we're not seeing strengthening on the industrial side in either the MRO or the user side.

I think you've seen that parallel in a number of our peers who have reported quite recently.

Their big weakness has been on the industrial side, both user and OEM, and it's been on the large industrial project side, whereas the strength has been more over on the construction side, particularly light construction and residential.

Would you characterize the light construction, and I guess residential not as much of the business, but is that light construction profit mix favorable or because there ends up being more lighting in there and maybe lower engineering content that it does hold down the margins and some of the strength we're seeing is really unrelated to that?

Again, I would say that a lot of this industrial MRO and user tends to flow into products, and you typically in the industry see products as a higher margin than systems and services.

It does play a little bit that way.

All right, great.

Thanks a lot, guys

That is one of the reasons in terms of the margin guidance that we provided in the electrical systems and services business that we trimmed those margins and it really is that issue, that the industrial side of the business, the MRO side of the business does tend to be a little bit more profitable and we are seeing relative weakness there in strength on the commercial side.

Great.

I'll pass it along.

Sandy, congratulations.

Thank you.

The next question comes from Jeff Hammond with KeyBanc.

Good morning, guys.

Good morning, Jeff.

Just back on the inversion changes, maybe two questions there.

One, how do you think differently or not differently about tax-free spends and wanting or not wanting to do that out beyond December 2017?

As you look at deals prospectively, how should we think about the ability -- how do we look differently or the same at tax synergies within that?

Let me jump on that, Jeff.

I'll deal with your second question first.

The new debt regulations, as I said a bit earlier, mainly impact us in having to have a more comprehensive documentation around newly-issued inter-company debt and it doesn't seem likely that those requirements would significantly impact any financings we would undertake as part of a new acquisition.

We don't see much impact on future acquisitions.

In terms of impact on spend, those regulations haven't changed.

It's a five-year sum, five-year period from the time that you undertake a transaction like the Cooper transaction, so as we get to the end of next year, we will be able to undertake a spend tax free and, again, there may be some more documentation for some of the financing around that, but we don't believe that the fundamental transaction will be impacted.

Okay.

Great.

Sandy or Craig, can you give us the quarterly cadence of NAFTA truck production, how you're thinking about that?

It was [64] in the first quarter.

Where our thoughts are is it's going to be approximately [60] in the second quarter, and then approximately [54] in the third quarter, and then [52] in the fourth quarter.

Okay.

Thanks, guys.

All that's, obviously, in our guidance.

And our best guess recognizing there could be a little bit of imprecision in those exact numbers.

Absolutely.

Our next question comes from Deane Dray with RBC.

Thank you.

Good morning, everyone.

You may have answered part of this question in your response to Josh's question, but it was interesting, one of your big electrical products distributors yesterday talked about a little more cautiously on non-res, calling it flattish, but maybe -- I don't believe they have that much exposure on the light commercial and residential.

How would you reconcile those comments from one of your distributors?

Obviously we have many, many, many, many distributors across the country and Canada and those -- my comments were really to the NAFTA region is that, again, for people who are participating in the really, really, really big projects on either the commercial side or the industrial side, it is not as strong.

It's really quite a mix issue in terms of where you're exposed.

Again, it's the lighter commercial activity that's the stronger side of commercial, and everyone's individual exposure will be a little different depending upon which market and how they are rated in terms of services.

We continue to see non-res as a pretty good year.

We've talk about this kind of 3% to 5% growth here, so we're not talking about a 10% year, but a good solid year.

As we look at our negotiations and we've talked about this, Deane, over many years, is because of our very large sales force, we get a pretty good look at the projects that are out ahead of us as well and that tenor feels pretty good at this point.

Great.

Second question, you called out the decrementals this quarter and when we look at those, they really jump out as a positive in terms of in tough markets and declining revenues, if you could manage somewhere in or around a 25% decremental and you handily did that.

Were there actions you had to take within the quarter to manage to those numbers or was that prior restructuring?

Well, it's both.

I mean -- but thanks for asking the question, because I think it is important for us all to remember that out of that $185 million of incremental savings year to year, a bunch of that is from actions we took last year.

Remember we pivoted at the end of the first quarter and Craig and the whole team have really put in place a very aggressive set of restructuring.

We obviously got benefits from that in the fourth quarter, we got benefits from that in the first quarter and obviously will through this year.

In addition to that, now we've also kicked off this whole set of additional actions here in 2016.

So yes, we would not be able to have those light decrementals unless we'd been working on this for some time at this point.

Great, thank you.

Our next question come from Jeff Sprague with Vertical Research.

Thank you.

Good morning, everyone.

Good morning, Jeff.

I was wondering if I could just go back one more time to tax and in particular, just thinking about the potential for spinoff dynamics.

I appreciate that the five-year period may not have changed, but I was also under the impression that perhaps there was just a high level of complexity if you wanted to go down that path, and I'm wondering if that complexity and kind of the disentangling of structures that you have in place currently, particularly in light of the treasury regulations, would make a spend especially difficult if not uneconomic.

Yes.

Let me answer that.

These new regulations really don't fundamentally affect a spin and disentangling any subsidiary to spin it is always a complicated exercise because sometimes the assets are not owned in a separate legal entity.

Sometimes you need to sell a legal entity to another entity in order to create one vehicle that you could spin.

If you look at other companies that have gone through spins, it usually takes a period of months, sometimes even as much as a year to disentangle all that.

But it really is a function of just getting all the assets and businesses into a single legal entity, and these new debt regulations won't have any significant impact on what you need to do.

Maybe before we go too far down the path kind of around this magical line of demarcation that happens at the end of 2017, so we don't read too much into that, as we said in New York, we have a game plan for all of our businesses, and we have a game plan that we like.

We've laid out a plan around how we get these businesses to deliver significant margins through the economic cycle.

We do certainly participate in certain businesses that are more cyclical than others, but we're not sitting around waiting for 2017 to make some magical decision around what we do with our businesses.

We have a game plan that we like, and we think each of these businesses will continue to contribute positively to the Company.

As you've seen, this year and in prior years, we know how to manage cyclical businesses, and we know how to deliver growing margins despite the fact that our markets are performing poorly right now.

As we think about the Company overall we have a plan to run these businesses, and I don't want to -- anyone sitting around thinking that come the end of 2017 that we're going to announce some big transaction.

We have a plan that we like.

There is certainly risk in some of our markets, as you saw in the vehicle discussion just recently.

Clearly, we had some of our markets being a little weaker than what we anticipated, but we're not done with restructuring.

In the event that markets are a little weaker, we have lots of programs and plans lined up to do more restructuring if we need to.

we're very confident that we can deliver the margin targets that we laid out for each of our businesses independent of what happens with some of these end markets.

Thanks, Craig.

That's very helpful.

Would it be also fair to say, though, that no plan is so set in stone that if there's significant economic value to be unlocked by doing something else, you would be open to doing that?

Absolutely.

It goes without question.

We've done it many times in the history of the Company as we shared with you in New York.

In the event that we feel like these businesses no longer meet the expectations that we set out for every one of them, we've demonstrated historically that we're willing to pivot and we're willing to divest businesses and that's still our position.

Thank you.

Could I just have a little more color on lighting?

I think Sandy just characterized it as strong, which I'm sure it is.

But can you give us a little bit of color on how quickly it's growing, where the LED penetration is, a couple metrics around the business?

Sure.

Maybe two that might be helpful to you, Jeff, is that our LED business is now over 60% of our total lighting business, and so we really think it's continuing to lead in that respect.

That LED business grew at over 30% in the quarter, and so it continues to be a very fast-growing and exciting area.

Part of the advantage, and you've seen a lot of reports come out after Light Fair, is that every one of our competitors has its own unique strengths and weaknesses.

We, again, are the only company that's really able to combine all of the advantages of independent lighting with the full power control and distribution system in the building and that's where I think we build very unique value for our customers.

Thank you very much

Our next question comes from David Raso with Evercore.

Quick question on cash flow.

I thought the cash flow the first quarter was pretty strong, definitely one of your strongest first quarters on record, I think you said.

The cash flow for the full year, I'm surprised it was an increase.

I think from the analyst meeting, one of the more interesting statements was how much stronger you expect the cash flow to be this five-year period versus the prior.

What was going on with the lack of cash flow increase?

I would say, David, really, and I would say this about a number of the elements in the first quarter.

It's still early.

We're at the end of the first quarter, and that we really -- we've seen the danger in these kind of slow economic times is just assuming that everything continues to get better.

I think by the time you get to the end of the second quarter, middle of the year, is probably more appropriate time to look at that.

Okay.

So it's fair to say that cash flow year to date is ahead of plan?

We had said that remember, a full year is that we would have a cash efficiency ratio of one or better and that's still very much our plan.

One last housekeeping.

Maybe I missed it.

The net savings, or if you want even lay out the cadence, of the $185 million of savings over the four quarters, how did it play out in the first quarter and the rest of the year?

We'll give you a full accounting on that by quarter when we get to the end of the year, but I think the best way to think about this is approximately 45% of that savings is in the first half, approximately 55% in the second half.

You might say, well gee, how could you get that much in the first half?

Remember part of it is the carryover for the full-year benefit for actions that were initiated in 2015.

That was our plan coming into the year.

It's built into our quarterly guidance, and so, again, hopefully that plus the kind of layout we gave you for the restructuring expenses on the chart that are in the presentation give you a sense for how both the costs and the benefits lay out over the year.

So the net actions in the first half are still slightly negative and the positive delta is second half?

Yes.

I think you -- yes.

Correct.

Okay.

Thank you very much.

Our next question comes from Shannon O'Callaghan with UBS.

Good morning.

Good morning.

Hey, on hydraulic margins, maybe just a little more color on how you feel the actions there are taking hold and when do you think you can get those to kind of the low-teens expectation ex restructuring?

When does -- what's sort of the demarcation line for them to be required to get there?

A great question and as you appropriately point out, so much of the restructuring that we have we're doing across the Company today and going back into 2015 is absolutely focused on hydraulics.

Today we have margins that are running, as you see, in the 10% to 11%, when you look at both Q1 and Q4, less restructuring, and we're -- I'd say order of magnitude about halfway through the restructuring opportunity that is we're working through.

So we really think by the time we get to the end of this year, early next year, that we ought to be having a business at this level of economic activity, not banking on any significant recovery markets, that is running in the low-teen rates.

Okay.

Great.

That's really helpful.

Rick, sorry to beat the tax thing to death here, but you know a lot of this stuff, so I'm going to ask you one more.

Is the fact that there's not an impact and you're still at your 10% to 15% still hold, is that because potentially differing treatment of debt and equity and things like that doesn't have an impact or is it because you've already incorporated some tax-free into your range in the first place when you say 10% to 15%?

Well, we had very carefully put together our financing plan for Cooper and really all the financings we've done over the years, and we've been very careful to be compliant with all the different IRS safe harbors and IRS regulations, and so these new debt regulations don't really impact you if you followed carefully those prior rules.

That's why it doesn't have much impact on us.

Okay.

Great.

Thanks a lot.

Our next question comes from Andrew Obin with Bank of America.

Good morning.

Good morning, Andrew.

Sandy, congratulations for great work over your tenure.

Thank you.

Just a question on aerospace after market, bookings were down in the first quarter, is it tough comp or what's driving it and any risk to aerospace margin in the second half of 2016 from lower after market?

Yes.

Really a tough comp on the aerospace after market.

We had a really exceptional first quarter last year with a number of our large aerospace distributors, so we're not concerned that this is a bigger trend.

In fact, if you take a look at what happened with revenue passenger miles and generally (technical difficulty) in Q1, it feels like the consumer is very much, in the economy, jumping on planes and those numbers are up solidly and perhaps a little stronger than what we originally anticipated starting the year, so it's an encouraging sign that consumers continue to get on planes and ultimately that's a good thing for after market.

Just a followup question on China, particularly on the electrical side, because the way I think about the cycle, by the time machine manufacturers will place orders for your equipment, by the time you ship it things have probably have been turning for a while.

What are the leading indicators that you guys use internally to gauge the state of the Chinese market, particularly on the electrical side?

I'd say that maybe there are a couple.

There's a large project business, obviously, that goes on that has a lot to do with utility and infrastructure.

There you get some look.

An awful lot of our business in China, though, is daily flow business, and whether that's on the power quality business or whether that's in the power distribution side.

That's a lot harder to gauge because it has a lot to do with how inventories are in distribution and whether the OEM or the construction side of the market is moving very quickly.

We don't get a lot of lead time in China.

We've probably got a better view here in the US than we do in China in terms of future view.

Thank you very much.

With that, we're going to have time for one more question this morning and I'll ask that Andy Casey with Wells Fargo.

Thanks a lot, and actually, good luck to you, Sandy.

Thanks very much, Andy.

Question on the ESS.

You've talked about weak industrial markets in the current period, but I'm wondering if what you've mentioned in past conference calls about some of the large industrial projects may be starting to come on during this second half.

I'm wondering if that's still the case or have they just been pushed out again?

Yes.

I would say outside of projects that were committed that had contracts behind them and there were some of those natural gas that were in that area, and they may not like their contracts so much today, I'd say, no, we aren't seeing the big projects come on for the second half.

Thanks.

Lastly in vehicle, just wanted to ask a question about the automotive side, specifically in North America.

There's been some concern about current dealer inventory levels, and I'm wondering if you're starting to hear any commentary about potential changes in production schedules for some of your customers in the second half?

Yes.

At this point we really have not heard anything that would suggest that there's any concern in terms of our view.

We still think 17.3 million units is a good forecast for the North America auto market.

Incentives have certainly have creeped up a little bit.

We track the number of dollars of incentives for vehicles that are being offered to encourage consumers to come in and buy, and that may be a little indication of some concern, but by and large, at this point we think our forecast is still valid and there's no real indication that the market won't grow relatively modestly this year, but off of a very high base.

Okay.

Thanks, Craig, and once again, Sandy, thanks for all your help over the years.

Thanks, Andy.

We'll turn it back to Sandy.

Maybe a way of concluding today's call, this, I think if I've counted correctly, is my 59th earnings call with Eaton, and all of us here in the Management team really appreciate your support, your questions and your help in helping us sort of think through many of the really key issues in and around running a business successfully.

I've got enormous confidence in Craig and his team.

I hope you are beginning to share that confidence at this point.

A lot of experience here on this team, and Eaton's best days are ahead of us.

We hope we'll continue to earn your support.

Thanks very much.

I've enjoyed working with all of you.

Don?

With that, as always we'll be available for followup questions for the remainder of the day and all of next week.

Thank you very much for joining us today.

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

We thank you for your participation and using the AT&T executive teleconference.

You may now disconnect.