Franklin Electric Co Inc (FELE) 2008 Q4 法說會逐字稿

Greetings, and welcome to the fiscal 2008 and fourth quarter earnings release for Franklin Electric Co. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions). As a reminder, this conference is being recorded. It is now my pleasure to introduce your host Mr. Patrick Davis, Treasurer for Franklin Electric. Thank you, Mr. Davis, you may begin.

Thank you, Mannie, and welcome to the Franklin Electric fourth quarter 2008 earnings conference call. With me today are Scott Trumbull, our Chairman and CEO; John Haines, our CFO; Robert Stone, SVP of Americas Water; and Gregg Sengstack, SVP of our Fueling and Asia Pacific business unit.

On today's call Scott will review our fourth quarter and full-year 2008 results and discuss the key issues confronting our Company for 2009. John will review our fourth quarter and full-year 2008 financials, and when John is through, we will allow some time for questions and answers.

Before we begin, let me remind you that any forward-looking statements contained herein, including those relating to the Company's financial results, business goals and sales growth involve risk and uncertainties including, but not limited to, risk and uncertainties with respect to general economic and currency conditions, various conditions specific to the Company's business and industry, weather conditions, new housing starts, market demand, competitive factors, changes in distribution channels, supply constraints, technology factors, litigation, government and regulatory actions, the Company's accounting policies, and future trends and other risks which are detailed in the Company's Securities and Exchange Commission filings included in item 1A of Part 1 of the Company's Annual Report on Form 10-K for the fiscal year ended December 29, 2007, Exhibit 99.1 attached thereto, and in item 1A of Part 2 of the Company's quarterly reports on Form 10-Q.

Of note, the Company's 2008 10-K will be filed this Wednesday, March 4. These risks and uncertainties may cause actual results to differ materially from those indicated by the forward-looking statements. All forward-looking statements made herein are based on information currently available and the Company assumes no obligation to update any forward-looking statements.

I will now turn the call over to our Chairman and CEO, Scott.

Thank you, Patrick. After a record third quarter we experienced an abrupt change in market trajectory during the fourth quarter. Through the first nine months of 2008, our sales increased by 32% and our operating income increased by 78%. During the fourth quarter, our sales declined by 1% and our operating income before restructuring charges declined by 21%.

In our Water segment, acquisitions increased fourth quarter sales by about 10%, but this growth was more than offset by an organic sales decline of 6% and negative foreign exchange translation effects of 7%. The organic sales decline occurred in the United States where, according to trade association data, the market for Water Systems' products fell by approximately 15% during the quarter. While we continue to gain share during the quarter we were nevertheless impacted by the drop in the overall market.

We believe the demand in the overall market fell for several recession-related reasons. First, U.S. new housing starts fell by approximately 40% versus the fourth quarter 2007. We estimate that about 15% of our total Water segment sales are tied to U.S. new housing starts. For planning purposes, we are assuming that new-home construction will continue to decline by 30% to 40% through the first half of 2009.

In the back half of 2009, we believe that housing starts will meet the depressed prior year levels. Second, as the banking crisis unfolded and credit availability became an issue we believe that distributors and contractors focused on reducing their inventories and, therefore, curtailed their purchases of additional pumps and motors. We expect that these downstream inventories will continue to be reduced into the first quarter and that inventory levels will stabilize as the spring construction season approaches in March and April.

Our sales of Water Systems products and international markets, which represent about half of our total Water Systems sales, were flat organically, but declined by 7% due to the impact of the strengthening U.S. dollar on our translation rates. During the fourth quarter, we had organic sales growth in Latin America and Europe, Middle East and Africa, but this was offset by a decline in Asia Pacific.

In our Fueling segment, fourth quarter sales increased by 6% versus prior year. All of the increase was organic and was driven primarily by increased sales of vapor control and monitoring systems in California due to that state's vapor control mandate. We estimate that as of year-end 2008 45% to 50% of the 11,200 filling stations in California, have already installed vapor control systems and that Franklin has supplied over 90% of the systems that have been installed to date.

During the fourth quarter, we noted a reduction in the monthly system installation rate. We believe that station owners are having difficulty arranging debt financing for the installations. As a result of this slowdown, while we had previously forecasted that our sales for the California mandate would start winding down in the second quarter of 2009, we now believe that our California vapor control sales may continue, albeit at a slower installation rate into the third or fourth quarter.

Although during the fourth quarter, a competitor's vapor control system was approved for installation in California, we expect to continue supplying the majority of the roughly 4,500 to 5,500, remaining installations. For us, the bright spot for the quarter was gross profit margins which increased by 140 basis points. The gross profit improvement occurred in both the Water and Fueling segments and was driven primarily by declining raw material costs.

Raw materials and freight represent about 70% of our manufacturing cost structure. Most of the materials that we purchase are made of steel, copper, aluminum or plastic resins. The prices for these commodities have declined significantly during the fourth quarter. We believe that raw material costs reductions will become increasingly evident in our financials during the year as we realize vendor price reductions and as we burn off inventories with a higher cost base.

While gross profits increased by $1.7 million in the fourth quarter, our SG&A expenses increased by $4.2 million. SG&A spending from recently-acquired companies accounted for $2.3 million of the increase. Most of the remaining increase related to one-time expenses such as transaction costs, sales force realignment costs and one-time compensation costs.

We're taking appropriate steps to reduce SG&A spending levels exclusive of acquisitions in 2009. It's clear that given weak and uncertain market conditions that we are experiencing thus far in 2009 our emphasis is on protecting our liquidity and reducing our costs. Our most important opportunity for liquidity improvement is increasing inventory turns. We increased turns in 2008 and plan to increase turns by another 16% in 2009. This will improve our liquidity by about $18 million.

In addition, because our plants are relatively new and our equipment is in good shape we're well positioned to hold capital spending below depreciation without having to sacrifice quality productivity or new product introductions. Our depreciation and amortization runs about $25 million per year and our capital spending plan for 2009 is $19 million.

In addition to approving our liquidity, we've initiated programs to reduce our costs and break even point. Our global procurement organization is implementing an organized and aggressive program to ensure that we capture our share of the cost reductions that our vendors have received as a result of falling commodity prices. We are well down the road with these programs.

By June 1, we will have transferred an additional 500,000 man hours of production activity from higher costs plants to our new facility in Linares, Mexico. This will reduce our direct labor costs by about $16 million -- excuse me, by about $16 per man hour or about $8 million per year on an annualized basis.

We expect to achieve fixed manufacturing cost reductions as well. Through our lean manufacturing initiatives, we freed up sufficient space in Linares to accommodate an additional 350,000 man hours of activity, which we plan to fill by the first quarter of 2010. In addition, we've cut departmental spending budgets, deferred merit increases for 2009, taken steps to reduce our health care costs, and reduced our global salary head count by about 6%.

While we are prepared to take additional steps to reduce our costs if warranted by the recessionary market conditions, our people are focused on mitigating the impact of the recession by continuing to provide excellent quality, service and sales support for our customers, and by earning a larger share of the market.

Now I'll turn the call over to John Haines, our CFO, who will provide additional color on the quarter.

Thank you, Scott. Our fully diluted earnings per share for 2008 were $1.90, a 56% increase over 2007. Earnings per share before the impact of restructuring charges were $1.96, up 47% from 2007. For the fourth quarter, earnings per share was $0.15 in 2008 versus $0.23 in 2007, a decline of 35%. However, the quarterly earnings per share before the impact of restructuring was $0.21 in 2008 versus $0.29 in 2007, a decline of 28%.

On a consolidated basis, our fourth quarter revenue was $152.1 million, down about 1% from the fourth quarter 2007. As Scott mentioned, the organic sales decline in our Water segment, slower growth in Fueling and the impact of a strengthening U.S. dollar all contributed to this flat sales result. For the full year, gross profit increased by 170 basis points. Operating income before the impact of restructuring charges decreased as a percent of sales by 160 basis points in the fourth quarter versus 2007.

For the full-year 2008, operating income before the impact of restructuring charges increased as a percent of sales by 180 basis points. Despite the significant market weakness globally, our Water Systems segment sales only declined by $4.2 million or 4% in the fourth quarter of 2008; $8 million of this decline was due to translation impacts of the strengthening U.S. dollar against most foreign currencies.

Our Water Systems' customers tell us they are focused on cash and the preservation of working capital given the uncertain economic times. As a result, they have lowered the levels of our products they have normally carried in inventory, and we believe this was a key driver of our lower Water sales in the fourth quarter. For the full year, our Water Systems segment grew revenue by 19% primarily as a result of acquisitions.

Operating income before restructuring charges for the Water segment decreased in the fourth quarter by 90 basis points and was effectively flat for the full year compared to 2007. As Scott mentioned, we lost some of the SG&A leverage in the fourth quarter due to the abrupt change in market demand for our Water products.

Our Fueling business' rate of growth slowed during the quarter. Revenues in the quarter were up 6%, however, operating income was up by 16%, primarily as a result of the California vapor recovery initiative. For the full year, our Fueling business grew revenue by 40% and operating income before restructuring expenses by 89%. Again, on the strength of our market share in California.

It's important, however, to also note that our Fueling business revenue growth in China nearly tripled in 2008 as we continue to win over new markets for our vapor management and other Fueling products internationally. Finally, as it relates to the vapor recovery management systems in California, [Bitterroot] introduced a competitive system in the fourth quarter.

As we have said, we believe that through the end of 2008, we have over a 90% market share position, and that we will continue to win a large share of the remaining station conversions in California. However, today we filed a lawsuit in California which alleges that in their effort to obtain market share, [Bitterroot] has engaged in unfair, unlawful and misleading marketing practices. The lawsuit seeks to stop these practices and to prevent adverse effects on our business in California.

We incurred restructuring charges in the fourth quarter of $2.1 million, almost entirely related to the Siloam Springs, Arkansas relocation to Linares, Mexico that we announced in December of last year. Nearly all of the fourth quarter 2008 restructuring charges were non-cash and related to pension costs for personnel impacted by the facility relocation.

We expect to take between $4 million and $6 million in additional restructuring charges in 2009 related to the Siloam Springs relocation and other severance costs related to reductions in our work force. Approximately two-thirds of these remaining restructuring costs will be non-cash. Cash and equivalents on hand were $46.9 million at the end of 2008, versus $65.3 million of cash equivalents and investments at the end of 2007.

We ended the year with $35 million on our revolver balance versus zero in 2007. This was partially due to the fact we had kept cash available in Europe at the end of the year, anticipating the Vertical acquisition which we completed in January for $19.9 million. For the year ended 2008, the Company's key debt covenant ratio of gross debt divided by earnings before interest, taxes, depreciation and amortization, or EBITDA, was 1.8, versus 2.1 at the end of 2007. The current covenant limit for 2008 is 3.5.

We believe that internally generated funds and existing credit arrangements provide sufficient liquidity to meet current commitments and service existing debt. As we have previously disclosed, the Company's revolving loan agreement with its banks is in place until the end of 2011 and we have no scheduled principal payments on our long-term debt until 2015. Our accounts receivable balance has increased just under 5% at the end of 2008, versus 2007, in part due to higher international sales, which generally carry longer payment terms. We have not observed any meaningful slowdown in our customers' payments to us.

Overall, inventory for the consolidated entity increased from year end 2007 by 9% to $169.9 million, primarily in our Fueling Systems group which had a 46% year-over-year increase due to our efforts to support the vapor recovery retrofit in California. The Company has made solid progress in our efforts to reduce inventory in our Water Systems units in 2008, specifically our Americas Water unit lowered their finished goods inventory by 28% year-over-year, and many of our Water units are implementing lean, [Taisan] and other single-piece flow initiatives that should benefit us even more in 2009.

As Scott indicated, inventory turn improvements remain a significant liquidity opportunity for the Company in 2009 and will be a key focus of management this year. This concludes our prepared remarks and we would now like to open the call up for questions.

Ladies and gentlemen, we will now be conducting a question-and-answer session. (Operator Instructions). Our first question is from the line of Matt Summerville with KeyBanc. Please go ahead.

Couple questions. Scott, can you talk about through the first two months of this year how you think the North American market is performing? I think you said in the fourth quarter you thought the industry was down about 15% in the U.S.?

Yes, that's on the Water Systems side, industry shipments were down about 15% in units through the first quarter, and we haven't seen much improvement through the first two months of the year.

So you would say, then, the North American business is pretty consistent. Can you provide similar color as to what you're seeing in your key international markets through the first couple months of the year?

Of course, the most pronounced effect has been on dollar translation, and as I mentioned, the translation effect was what caused our sales to decline by about 7%, in our Water segment during the fourth quarter. And that really, that rate hasn't changed much in the first quarter of this year.

But beyond that, while our sales in our international markets organically were flat in the fourth quarter, based on what we've seen so far it appears that the first 90 days that they were down modestly organically in the first 60 days, excuse me, of the year.

Okay. And then with respect to Fueling have you seen any change on the part of station owners' ability to get credit now versus what you were experiencing, I guess, in the fourth quarter? And how comfortable are you that you haven't seen in Fueling any real demand impairment?

I don't think that the impact of the -- there is evidence that the impact of the banking crisis is greater now in the first quarter than it was in the fourth quarter. And I also don't see any reduction in the determination of the regulators in California to enforce the vapor mandate that's in place. And that, as we said, there is 11,200 stations in California, somewhere between 90% and 100% of them will convert and some percentage won't convert, they'll go out of business.

And that that, all those stations are going to convert. And we would -- I think it would be very optimistic for us to assume that in light of the fact that we now have a competitor in the market, that we would maintain the same market penetration on the remaining roughly 4,500 stations that are going to convert, that we have had on the first roughly 5,500 stations that have converted because now there is a competitor in the market.

And, and that so -- we are not, and nor have we ever projected, that we would maintain a 90-plus percent share of the market with a competitor in the market. So as I've indicated, or we indicated, or I indicated in my remarks, and we indicated in our press release, we do, however, anticipate that we will continue to supply the majority of the remaining conversions.

As we think about how to model Fueling in 2009, what quarter would you believe that would be the high-water mark in terms of revenue in Fueling given the dynamics impacting that segment right now?

I'm going to turn -- I'm going to let Gregg Sengstack respond to that Matt.

Great.

Yes, Matt, given the slowing that we saw in the fourth quarter, as compared to the third quarter of last year, and the likelihood that this California initiative is going to extend out, then towards the back half of the year we're going to be picking up the California in-station diagnostic or ISD sales. We're expecting in the back half to see more international sales of vapor recovery, particularly with respect to the initiatives in China, in both the Shanghai and Guangzhou areas. So I'm not sure I can say there's going to be a high water mark.

We would have initially thought it would be first quarter or certainly first half, but that's a little clouded depending upon the rate of conversion in California.

Are you seeing any signs that your business in China -- well, are you -- are the same issues that are impacting California at all at play in China with regards to just the general crunch in the banking system? And I guess how good do you feel about your ability, or the fact that you're looking for higher international volumes in the second half of the year, in Fueling?

In Fueling, the sense is in Asia and China, in particular, is that the business is going to happen. It may start a little bit later, but given that the Asian games, the World Expo are coming in 2010, that the initiatives that were mandated by the Chinese government and the Shanghai and Guangzhou areas are going to happen much like they happened in Beijing before the Olympics.

What if your competitive within rates in Beijing, what did they look like, and I guess how are you looking at Shanghai and Guangzhou in a similar fashion?

We had greater than 50% share in Beijing from our information and we would expect that we have similar economic opportunities in the southern regions, as well. I would say that anecdotally that on the Water side of our business, not directly to your question, but in China is that the impact in the housing market, we have seen a slowdown in apartment building and construction. And we have a very small Water business today in China, but we do see where that side of the business is slowing down, and that we're the -- the banking has affected the construction market. But we are not getting indications at this point that it is going to affect the Fueling initiative.

And then just one question on raw material costs and I'll hop out of the queue. You mentioned that you expect the rate of benefit to increase through the first half of the year. In terms of lower raw material costs, Scott, how much of that downward pressure in input prices do you anticipate actually being able to capture? And then this sort of feeds into my next question, which is in the fourth quarter what did you see in terms of pricing and what are we looking at here early on in the year? And I'm speaking to the Water business now, obviously.

Okay. Well, our cost reductions fall into three categories. One is the raw material cost reduction that will flow through. We buy some commodities directly, copper being the principal commodity that we buy directly. And then we buy a -- much of what we buy beyond that are products that are made directly from the commodities.

So we're going to capture for the roughly $20 million of copper that we purchase annually, most of the commodity price decline. However, not all, because we did have some forward contracts, all of which were below the average price for 2008, so all of which locked in a deflation in copper prices, but a number of which were over the current spot price.

So, but we'll capture the majority of the copper reductions. And beyond that we -- I hate to put a number out there on the -- of the remaining roughly $300 million of purchases of products that are made out of these other materials. What we will capture in the way of a price reduction, we just have chosen not to disclose that number for competitive and market reasons.

But we would expect that, you know, Matt, very well, how much the commodity prices have come down, and those commodity costs are probably 30% to 50% of the cost of our vendors, and we're going to want to capture as much of that as we can. And we're negotiating with them now and we're having a good deal of success in that regard, and but the price reductions will phase in over the course of the first half of this year, and then they have to get through inventory.

So I would say the major impact of the reductions will start showing up -- start really showing up in our financials as we go into the back half of 2009. That's when we'll really start to see the reductions.

The second area of reduction is in our fixed spending, and we have targeted a double-digit million-dollar reduction in fixed spending this year to, over and above what happens to raw material costs. And then the third factor is in the direct labor cost benefit that we will get when we move the manufacturing in Siloam Springs down to our plant in Linares, and I identified that as about an $8 million annualized cost reduction, again, that will hit in the back half of the year.

So our success formula for this year is that while in the back half of the year we anticipate that our Fueling sales will start to fall off as the California surge winds down, our cost reductions in the Water business are going to be very significant and will enable us to improve margins to the extent that we can offset with Water margins the decline in the sales volume that we'll see overall in Fueling as the surge winds down.

Now, as I say, that's our success scenario. A lot of things have to come together to make that work, including a sales volume scenario that is not -- does not reflect a dramatic reduction in sales in our Water business as a result of this recessionary market condition that we're facing right now. But that's basically the way our plan for the year is structured.

And then just to comment on what you're seeing on pricing, Scott, in the market, in water. And if you've announced or implemented any additional actions beyond what you did in '08 in Fueling?

Okay. Our -- first of all, as you know, 2007 was a disruptive year for us pricing-wise in Water. 2008 the scenario improved. And overall price was a positive factor as far as margins were concerned in 2008.

And as we came to the end of 2008, we saw a -- I would say -- a modest increase in promotional pricing activity, and our expectation is that there will be a modest increase in promotional pricing activity through at least the first half of 2009. But we're not seeing that, Matt, as a major factor in our margin equation for the Water business.

In other words, it's -- it has not been important enough to make us change our basic thinking around the equation that I mentioned to you, at this point. Is that okay?

Yes. And then just pricing on Fueling, Scott?

Gregg, you want to talk to that?

Yes, we made a price change in the third quarter of 2008. We've made no pricing changes since then.

Great. Thank you.

Thank you , our next question is from the line of Ned Borland with Next Generation Equity Research. Please go

Hello, guys. Back to Fueling here for a second. If you have 50% to 55% of the stations yet to retrofit, I'm just trying to get a sense for how to look at the first half. I mean, are we trending now in the first quarter more towards like third quarter '08 levels, or is it more consistent with the fourth quarter levels in fueling?

Ned, I would say, given the inventory that was in the system in the fourth quarter and the slow-down in the end markets, I would say that it looks like first quarter would be more like fourth quarter than the third quarter of last year. Depending on when the regulators come out and to what degree they come out with what actions are going to take on the fining side or on enforcement after April 1, will then, I think, give greater clarity to how the balance of the year will unfold.

Okay. So some of the laggards could fall into the second quarter and beyond, is what you're saying?

Correct.

We think for sure, Ned, that the tail is going to go right in 2009, which means that more of these than we had originally thought will go into the second quarter and perhaps more will even go into the third and fourth quarter, but a lot of that is going to depend on the enforcement actions that the state takes and it is hard for us to really necessarily predict that in this environment.

Okay. And can you give me a sense for what your non-California portion of Fueling did in the fourth quarter?

I'd say that in general, the Fueling business did okay in the fourth quarter, that activity was basically steady, but we've gone into a fairly hard winter and we've gone into, I think, a period where, again, new station construction activity may be delayed, but generally speaking the market held up well in the Fuel business outside of California.

Okay. And then just finally on some of these SG&A actions that you're taking, I want to get a sense for how it flows through, throughout the year?

Okay. Our expectation is that, as I mentioned, that we would reduce the combination of SG&A and fixed manufacturing significantly, and it would build throughout the year. In other words, that the back -- the reductions in the back half will be greater than the reductions in the first half, because of the timing of the facilities consolidations which will drive down the fixed manufacturing expenditures. We do expect SG&A spending to be equal to or less than prior-year levels during the first quarter.

Okay. That's helpful. Thanks.

Thank you . Our next question is from the line of Paul Mammola with Sidoti & Company. Please go

Hi, good afternoon, guys. Are there any areas of the water products business that are stable or buoying at this point, maybe in the terms of waste water or fresh water or in any of the brands?

I'm not sure I understand the question. Are you saying are there any areas that were experiencing some growth?

Sure. Some growth or stable. I know you commented that the broad business was down 15%, or the industry.

Yes.

So for your businesses was there anything that was stable, if we talk in term of fresh water versus waste water, or in ag, or in any of the brands, if we talk in terms of Monarch, Little Giant.

Well, internationally in the fourth quarter, as I mentioned, our basically the international business, which is about half of our Water Systems business, I would describe as stable. We did see a decline in Asia Pacific, but a lot of our Asia Pacific volume is export and the buyers tend to play with currency fluctuations, and place orders when it's opportune for them from a currency perspective, and we think that was a major factor in a chunk.

Several of our Asian markets in the fourth quarter, but in Latin America and in Africa, and in the Middle East, we continued to see pretty good increases to offset the Asia declines. So I would say half of our business, which is outside of the Water business, which is outside of the U.S. I describe in total as stable through the fourth quarter. In the U.S., I would say that -- Robert you want to comment on that?

Sure, sure. While we've had a number of new product introductions over the past couple of years, and several of those are taking off pretty nicely, given our share position in some of the ag markets, we think we have some very good growth opportunities there. We've made some small acquisitions recently to help shore up our product portfolio in those areas, and I think we've got some good opportunities there.

We had not forecasted the ag market to be bigger this year than last year, but, again, we've got good growth opportunities in term of share in those areas. Our drive products have been very successful. We'll have to try to maintain that momentum, but in those areas we had good success and they're stable.

Okay. That's all very helpful, and then on the Fueling side, would you share how many installs there were in the fourth quarter, or conversions, rather?

We have not, for competitive reasons, chosen to disclose that.

Okay. So see if you can work with me here. Say it is in the 1,300 to 1,400 range, there's 4,500 left, that puts you at around 3,000 left to install. If 1Q is running at a 4Q rate, that means you're going to have 3,000-plus stations in March and beyond. So, I guess, the question is, what do you expect to fall into 2Q and beyond or past that April 1 deadline?

Well, I think -- if you're saying that your math is that there are 3,000 stations at the end of the first quarter, you would think that -- there's going to be -- I'm sure that to the degree that there are fines and enforcement actions for those who want to keep their fueling business, they're going to do those relatively quickly in Q2.

Then there are probably another group that says I don't have financing at reasonable rates, I need to put this off. I'm either going to stop pumping fuel or I'm just going to get out of the business and then may come back later in the year when they have financing arranged or fueling economics are warranted to go ahead and do the conversion. It is a little tough to tell how the market is going to react to what the regulators do.

All right. Great. What can a gas station do to get past that April 1 deadline at this point? Is there any sort of leniency from the regulators, do you know?

We haven't seen any published leniency, and I can't answer for the regulators. But somebody could stop pumping fuel for a period of time until such time as they either had the financing in place or the money in place to go ahead and proceed.

Okay. Thanks for your time.

Thank you . Our next question is from the line of Brian Meyer with Robert W. Baird. Please go

Hey, guys.

Hello, Brian.

So first we can get back to the expected savings from the head count move to Mexico. You said you'll hit the $8 million run rate looks like in the back half of the year. I guess then is it fair to assume that for the full year you're -- the benefit is roughly $4 million or are you going to realize some lesser benefit in the first half such that it's something like $6 million for the year?

I suppose it would be -- there would be more -- there will be more in the back half than in the first half.

Okay.

And that the savings -- the easy to quantify savings. We know how many man hours of work we're transferring down. We've indicated 500,000. We know what the labor costs are in the two arenas, so that's a pretty easy calculation to make.

In addition, there will be these fixed manufacturing cost savings because we're -- the number of fixed manufacturing dollars that have gone through Siloam will be reduced by a significant extent through this change, and we're not adding that much in Linares. So there is going to be a fixed cost savings as well.

Okay. And then continuing with this theme, you guys said or kind of hinted that you'll be, or that you had the space to move 350,000 more man hours to Linares and that could be done by 1Q 2010. If you do the same math there, that's another $5.6 million in annualized savings. Do you start to realize that at kind of a run rate in 1Q '10 or is it 2Q '10?

Well, I would say by 2Q '10 we should have both, that the Siloam Springs and in whatever additional savings as a result of the other roughly 350,000 man hours of activity that we would move down to Linares.

Sure. I would expect, then, if you're expecting to complete that by 1Q '10 that you'll also have some smaller benefit in the second half of 2009 as a result of these additional 350,000.

Yes, although during the moves we actually incur some cost penalties because what we'll do is we'll bring on the troops in Linares and we'll be going through training and what have you, and we will not have let the troops elsewhere go. And so there are -- there is a period as we're going through this of -- where our costs are actually a little bit higher than they normally would be.

Okay. Fair enough. And then switching gears to the -- your comments on inventory in the channel, I think you guys had said that you kind of expected depletion to -- I don't know if cease is the right word, but at least stabilize in the first half or in the first quarter. Now that we're two-thirds of the way through the quarter, I guess my question is, have you seen the ramp in destocking kind of flatten out already, or is that still on the horizon for you guys?

Okay. What we said, and was that we saw the destocking continuing into the first quarter, but that inventory levels would stabilize as we approached the construction season which for this industry, the early part of it starts in March. So I would say up to now we've continued to see destocking.

Okay.

And that we anticipate that the inventory reductions will start to -- the distributors and contractors start feeling better about keeping inventory when they have a backlog. And by the time March and April comes around, they will have a backlog of jobs to work against.

Sure. Okay. And then one last one here just getting back to the kind of the end markets during the fourth quarter, it sounds like ag was probably still a decent market for you guys in the quarter and has been all year. I'm wondering if more of the commercial-industrial-municipal kind of applications slowed down during the fourth quarter along with obviously the residential PMA stuff?

Yes, Brian, this is Robert. The -- we don't play terribly strongly today in some of the industrial, municipal, anecdotally we have heard that that business came -- it slowed down dramatically, but that was not a big factor -- is not a big factor in our sales. So we were not largely affected by that at the end of '08.

All right. That's it. Thanks a lot, guys.

Thank you. We have another question from the line of Matt Summerville. Please go ahead.

Just a couple more questions. First, can you just talk about what you're seeing, Scott or Robert, from a competitive standpoint with Faradyne's larger motor now being out on the market? And then just a housekeeping question. What should we assume your tax rate is in 2009?

As to the larger thrust rating motors, Matt, we have seen almost nothing of the product. We understand that they've got some in inventory and that they've sold a few and that they are giving several away, but we have not seen any major impact of that, and fact we know that several distributors are still trying to source our motor from other OEMs or other distributors to have it available.

Okay. And then the tax rate ?

35% is a good estimate for '09, Matt.

Okay, and then just one final one. I think it was you, John, in your prepared remarks, you had mentioned a lawsuit that you're talking, that you've initiated, I guess, in California. I would assume that that is probably somewhat of a matter of public record. Are you able to comment on that in more detail around what you're particularly, or what you're asserting in particular in that lawsuit?

Well, the lawsuit is filed today, so if it's not already, it will shortly become a matter of public record so that you can see that, Matt.

We're not going to comment broadly about the lawsuit, but we will say what our claim is and what it is based on is that we believe that [Vedarute] in an effort to gain market share has started to deploy what we view as unfair and illegal marketplace practices. And what our lawsuit is attempting to do is to stop those practices and to prevent any further,or any harm at all against Franklin. So that is what's in the lawsuit and that's what the litigation is about that was filed today.

Okay. That's all I have, thanks.

Okay. Well, this will be the end of our call. Thank you for your attention.

Thank you, ladies and gentlemen. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.