H.B. Fuller Company (FUL) 2006 Q4 法說會逐字稿

Good morning, and welcome to the fourth quarter 2006 Investor Relations Earnings Release conference call.

[OPERATOR INSTRUCTIONS]

Management in attendance on today's call include Mr. Michele Volpi, President and CEO, Mr. John Feenen, Senior Vice President and CFO, and Mr. Steven Brazones, Director of Investor Relations.

At this time I would like to turn the meeting over to Mr. Brazones. Sir, you may begin.

Thank you, April, and welcome everyone.

Today's conference call will be available for replay approximately one hour after we are finished with the question and answer portion of our call.

Before beginning I would like to inform everyone that certain matters discussed during this call will include forward-looking statements as that term is defined under the Private Securities Litigation Reform Act of 1995. Since such statements reflect our current expectations, actual results may differ.

In addition, during today's conference call we will be discussing certain non-GAAP financial measures. Specifically, free-cash flow and pro forma earnings per share. Management believes that the discussion of these measures is useful to investors because they provide both insight into the ability of the Company to find such things as debt reduction and acquisitions and assists in understanding the comparitabilty of results in light of the specific items identified in our earnings release.

For more information please refer to our recent press release, quarterly report on 10-Q and the annual report on form 10-K filed with the Securities and Exchange Commission, all of which are available on our website at www.hbfuller.com under the Investor Relations section.

Now, I would like to turn it over to John.

Thank you, Steven. Good morning to you, everyone.

This quarter was unique as it included two events with significant financial impact. The divestiture of our powder coatings business, and the transition to our new Chief Executive Officer.

The sale of our powder coatings business occurred at the end of the fourth quarter. We sold the business for $105 million, and this resulted in a one-time gain of $68.9 million. Transaction-related expenses totaled approximately $700,000, and as a result of the divestiture, the financials of the powder coatings business are no longer consolidated.

On the income statement it is financial performance is reported as income from discontinued operations for all periods. Both the gain and the transaction related expenses, are netted in the income from discontinued operations line and combined had a positive one-time impact on a pretax basis of approximately $68 million or $0.83 per diluted share.

In 2007 the Company will benefit from lower interest expense and higher interest income as a result of utilizing the proceeds from the sale of this business. This will offset approximately $0.04 to $0.05 of the $0.07 in lost earnings contribution from the divested powder coatings business.

During the quarter we entered into a separation agreement with Al Stroucken our former Chairman and CEO. At the time of the agreement we expected to record after-tax charges of $5.9 million in fiscal year 2006 and $1.5 million dollars in fiscal year 2007.

However, subsequent accounting determinations were made that resulted in recognizing the entire amount totaling $7.5 million in this year's fourth quarter. Therefore we will be no -- there will be no impact in 2007 as a result of the separation agreement. On a pre-tax basis these charges were $12.3 million in the fourth quarter. This entire amount was recorded in SG&A expense.

As a result of these two events, comparing reported results with the prior year becomes complex. Therefore, where appropriate, we will be discussing both reported and pro forma results for this year's fourth quarter to assist in comparing with prior year results.

For the fourth quarter net revenue was $395.6 million, up 0.3% versus the fourth quarter of 2005. The net effect of acquisitions and divestitures and favorable foreign currency translation contributed 7.5 and 1.4 percentage points respectively for this year's fourth quarter net revenue growth. Last year's fourth quarter included an extra week compared to this year's fourth quarter. The extra week adversely impacts the year-over-year comparison by 7.1 percentage points.

Organic sales which exclude the impact from acquisitions and divestitures, foreign currency translation, and the impact from the extra week declined year over year by 1.5%. Average selling prices increased 5.7%, and volume declined 7.2% year over year. The volume development remained in line sequentially with the third quarter.

Gross profit was $112.4 million in the fourth quarter compared to $106.4 million in last year's fourth quarter. Correspondingly gross margin for the fourth quarter was 28.4% compared to last year's fourth quarter gross margin of 27%. The 140 basis point increase in gross margin was achieved through continued pricing actions, new product offerings, higher productivity, and cost controls.

Raw material costs which increased approximately 6% to 7% year over year and 2% to 3% sequentially were roughly flat as a percentage of net revenue year over year.

SG&A expense was $81.9 million versus last year's fourth quarter of $76.6 million. SG&A expense excluding the unusual one-time pretax charges of $12.3 million associated with the separation agreement was $69.7 million down $7 million versus prior year. As a percentage of net revenue SG&A expense excluding the charges was down 180 basis points from 19.4% in last year's fourth quarter to 17.6%.

Operating income, which is defined as gross profit less SG&A expense, for the fourth quarter was $30.5 million versus $29.8 million in last year's fourth quarter. Operating income excluding the unusual one-time charges of $12.3 million associated with the separation agreement was $42.8 million up $13 million versus prior year or nearly 45%.

Correspondingly operating margin excluding the charges improved by 320 basis points from 7.6% in the fourth quarter of last year to 10.8% in this year's fourth quarter.

On a segment basis, all financial results that I am going to discuss are prior to the $12.3 million in charges associated with the separation agreement.

Global adhesives continues to reposition its business emphasizing its higher margin and higher growth potential product lines and thereby generating impressive margin expansion even in light of a softening economic environment that began materializing in the fourth quarter. Operating income for Global Adhesives increased from $18.9 million in the fourth quarter of 2005 to $29.7 million, up $10.7 million prior year or greater than 55%.

As a result, operating profit margin increased from 6.6% in the prior year to 11.3%, an increase of over 450 basis points. The benefits of repositioning the business, attrition management, process improvement stemming from Lean/Six Sigma, and a culture of scrutiny around expenses led to the improved results.

The Full-Valu/Specialty segment experienced a softening economic environment but was more significantly hindered by the slowdown in construction and residential housing activity. Operating income was up $2.2 million from $10.9 million in last year's fourth quarter to $13.1 million. Accordingly, operating margin declined slightly from 10% in the fourth quarter of last year to 9.9% in this year's fourth quarter.

Interest expense was up from $3.2 million in the fourth quarter of 2005 to $4.7 million in this year's fourth quarter. The increase was primarily due to the higher level of debt as a result of the Company's acquisition of Roanoke Companies Group earlier in the year. Net gains, losses on sales of assets was a gain of $295,000 in the fourth quarter of 2006 as compared to a gain of $74,000 in last year's fourth quarter.

As discussed earlier, the gain on the sale of the powder coatings business is recorded in income from discontinued operations. Other income net in the fourth quarter was $50,000 down approximately $1 million versus the prior year's fourth quarter other income of $1.1 million. Last year's fourth quarter included $1.2 million in income from an insurance settlement.

Pretax earnings was $26.2 million in the fourth quarter of 2006 compared to last year's fourth quarter pretax earnings of $27.8 million. Pretax earnings excluding the unusual one-time charges of $12.3 million associated with the separation agreement was $38.5 million representing an improvement of more than 38% year over year.

The effective tax rate for the quarter was 12.8% compared to 25.2% in last year's fourth quarter. This year's tax rate was impacted by a 3 million reduction in tax expense due primarily to the change in geographic mix of earnings and the release of previously unrecognized NOLs. For 2007 we anticipate an effective tax rate of 29%.

Minority interest swung from income of $114,000 to an expense of $397,000. This is a result of an improvement in the profitability of both the North American automotive and Chinese joint ventures.

Income from equity investments increased by $800,000 year over year from $1.4 million in the fourth quarter of last year to $2.2 million in this year's fourth quarter. The increase was the result of the improvement in the financial performance of both our Japanese and our other international automotive joint ventures.

Income from continuing operations before cumulative effect of accounting change was $24.7 million versus $22.3 million in last year's fourth quarter. This excludes the entire financial impact of the powder coatings business divesture and includes the $12.3 million in pre-tax charges associated with the separation agreement.

Earnings from discontinued operations were $51.3 million. This consists of the after-tax gain on the sale of the powder coatings business of $50.3 million, net income from the powder coatings business of $1.4 million, and an after tax transaction cost of $0.5 million. The cumulative effect of accounting change of $213,000 is associated with the adoption of Finn 47 and is related to asset retirement obligations.

For the fourth quarter of 2006 net income increased from $23.3 million in the prior year to $75.7 million. This year's fourth quarter net income includes on a pretax basis 12.3 million in charges associated with the separation agreement entered into with the Company's former Chairman and Chief Executive Officer of $0.12 per share, $700,000 in transaction related costs associated with the divesture of the Company's powder coating business of $0.01 per share, and a 68.9 million gain on the sale of its powder coatings business $0.83 per share.

In addition, this year's fourth quarter net income includes 3 million in tax related benefits of $0.05 per share. Adjusting for these items results in net income of $30.6 million and pro forma earnings per share of $0.50 for the fourth quarter. This quarter's performance represents a significant improvement year over year and provides us with solid momentum as we enter 2007.

Prior to discussing the balance sheet, I would like to remind everyone that the following figures are subject to minor changes prior to filing our 10-K.

Cash at the end of the quarter totaled $255 million. Up substantially due to the proceeds from the sale of the powder coatings business. This transaction closed on the last business day of our fiscal year. Subsequent to year end, we have repaid the remaining $62 million of revolving credit facility debt.

Networking capital which is defined as net trade accounts receivable plus inventory minus trade accounts payable amounted to $194 million. As a percentage of annualized net revenue, networking capital was 12.3% for the fourth quarter. This represents a decline of 320 basis points from the previous year's fourth quarter. As a result of the sale of the powder coatings business, its networking capital is no longer consolidated.

Capital expenditures for the fourth quarter were $8.6 million, up $1.1 million versus last year's fourth quarter spend of $7.5 million. For 2007 we expect capital expenditures to be between $25 and $35 million.

Depreciation expense in the fourth quarter was $10.1 million, down $2.6 million from the prior year's level of $12.7 million. Amortization expense was $3.1 million in this year's fourth quarter up $2.4 million year over year. For 2007 we expect depreciation expense to be in the range of $35 to $40 million and amortization expense to be approximately $12 million.

Total debt at the end of the fourth quarter was $259 million compared to $147 million at the end of the fourth quarter of 2005 and $288 million at the end of the third quarter of 2006. During the quarter we repaid $28 million in revolving credit facility debt. Correspondingly, the Company's capitalization ratio was 25% at the end of the quarter compared to 21.2% at the end of the fourth quarter of last year and 31.1% at the end of the third quarter.

Free cash flow for the quarter which is defined as cash flow provided by operations less dividends paid and capital expenditures was $50.6 million. The components for the fourth quarter of 2006 were as follows: cash flow provided by operating activities was $62.9 million, dividends paid were $3.7 million, and capital expenditures were $8.6 million. Improved profitability, lower capital expenditure requirements and networking capital improvements all contributed to the increase.

I would like to share with you some key highlights as we exit 2006. We've had eight consecutive quarters of solid earnings performance. We've continued our transformation of H.B. Fuller's profitability. We have recorded free cash flow of a $150 million for the year, and we have continued our improvement in networking capital.

In summary, we are pleased with our results and the progress we continue to make.

I will now turn it over to Michele.

Thank you, John. Good morning to everyone, and thank you for joining us today.

We're clearly pleased with our strong fourth quarter performance, especially when these extraordinary results were delivered in a challenging North American manufacturing environment and in the midst of a CEO transition. Evidence once again of the strong execution capabilities and levels of accountability of our people.

This last quarter following forces of solid trend of two years in a row and closes a stellar 2006 for H.B. Fuller. As you all have heard in previous sessions, at the end of the fiscal year 2004 we embarked on a journey to redefine the Company and bring it to higher levels of performance through more delivered segmentation, value-added offering, organizational realignment, key talent upgrade, and Lean/Six Sigma implementation across multiple areas.

2006 was no exception to 2005. It was a key transformation year in several respects. First, we significantly improved the profitability of the Company. We changed our approach to the marketplace, focusing on those areas where we add the most value for our customers and likewise generate the highest returns.

We walked away from some undesirable volume focusing first and foremost on profitable growth. Through the leverage of Lean/Six Sigma tools and processes we improved the productivity of our workforce as planned, field, technical levels and within the corporate branches.

We removed redundancies, streamlined processes, and today we're more productive and faster in our decision making than ever before. These have significantly lowered our cost structure and resulted in both lower compression costs and SG&A expenses coupled with a remarkable improvement in networking capital.

Second, we completed two acquisitions in the Full-Valu/Specialty segment, Roanoke Companies Group and Henkels insulating glass business. Both transactions are expected to better position the Full-Valu/Specialty group for long-term growth.

Roanoke, a leading flooring products company focusing on the retail home improvement sector brought us additional expertise in sales and marketing and broadened our retail channel access with a solid portfolio of brands. The complementary nature of this transaction helped us solidify areas where we were historically weak.

With that said, the severe slowdown in the U.S. residential construction and the inventory rebalancing of key big box retailers has created a challenging environment as of late. While back office synergies are ahead of our initial expectations, sales are below plan. Clearly this is disappointing for us and is a divergence from our previous expectations for this business.

With that said, we're working to mitigate this impact by heightening our focus on cross-selling synergies, and we are confident in the long-term potential of the business and the broader construction segment. Henkel's insulting glass business a leader in the European market further strengthened our presence in Europe, provided us access to additional technologies, and created a platform from which to grow. For 2007 we expect the transaction to meet our initial expectations.

During last year we conducted and completed as well a thorough analysis of our portfolio, evaluating all businesses based on their historical and potential return on capital and growth opportunities. In that exercise we identified the powder coatings business as a nonstrategic asset, and we have executed on the sale of that business.

The combination of these operational and portfolio activities culminated in total shareholder return for the calendar year of more than 60%, and H.B. Fuller's recognition for the second year in a row by Forbes Magazine as one of the 400 best big companies in the United States.

Our entire team is extremely proud of what we have accomplished. It was indeed a total team effort and serves as an encouragement to do even better in the future.

As we look ahead, we're excited, motivated and cautiously optimistic. Let me share then our views on the 2007 landscape.

Organic growth was by design a point of potential for us in 2006. The process improvement efforts around pricing and raw materials coupled with the actions around networking capital enhancement allowed us to separate ourselves from a generalized industry trend of falling gross margin but clearly paid us all on the top line.

Let me underscore that when we make the decision to walk away from low margin volume, the impact is immediate. Conversely, it takes much longer to force the new business in more profitable areas. With that said, we are pleased to report that the overall cost benefit equation was positive, and that while the majority of our key accounts stayed with us and worked in partnership to navigate the most turbulent environment that has been seen for years in the business market, several new profitable accounts were added to our portfolio.

We are happy to see accounts coming back due to failed re-engineering efforts of our competitors. Our global accounts group growing at double-digit rates. We are overall pleased with our progress in the fourth quarter which is quite commendable given the contraction of manufacturing activity in North America, not just in residential construction and automotive. We are convinced that we are pursuing the appropriate long-term strategy. We are therefore cautiously optimistic for organic growth in the higher margin, higher growth sections of the business in 2007.

As we enter 2007, the raw material environment will continue to be uncertain. As previously mentioned throughout 2005 and 2006 we experienced a significant and continued increase in our raw material costs. Bigger energy prices, tight supply and natural disasters combined to result in significant cost inflation. H.B. Fuller reacted with implementation of disciplined processing prices which are built to last, and demonstrated the ability to work with customers to recuperate sudden higher costs.

As we look forward to 2007, we don't see yet a dramatic change in our raw material costs. The recent declines in ethylene have not yet fully translated into basic from material declines due to inventories, specific supply issues, and intermediate at derivatives pricing power. Presently while we are seeing some cost reductions for certain ethylene based raw materials, we continue to face pressures in waxes, tacky fine resins and refined oils.

Regarding the recent developments in the North American ancillary market, I would like to clarify that ethylene derivatives such as EDA, VON and EDA whose costs tend to move with this material account for 15 to 20% of our total raw material purchases. Conversely, we spend approximately twice as much on materials such as hydrocarbon resins, (indiscernible), waxes, oils and solvents where ethylene developments have no effect on their costs.

Furthermore, over 40% of the materials that influenced by ethylene are purchased abroad where the cost development trends are not favoring purchases of the derivatives. While the raw material panorama is uncertain and not easy to analyze given the thousands of raw materials that we buy, it goes without saying that we intend to remain vigilant and use the Lean/Six Sigma tools to take advantage of any raw material cost decreases.

Moving to the margin on economic outlook by region, we believe that North America which accounts for roughly half of our total sales may struggle farther due to the contraction in the construction and automotive markets and to our slowdown of general manufacturing activity. The significant reduction in new construction rates and the related deflation in home values is having an adverse effect not only on the Full-Valu/Specialty segment but also on some areas of the Global Adhesives segment.

The North American auto manufacturers continue to be challenged by a weakened demand and high level of inventories. Our ethnic joint venture with the Swiss partners of [Indiscernible] has performed well in this challenging environment The European market appears to be in much better shape than North America with Germany by far the biggest economy in the region showing signs of improvement.

As a company we expect great things from the region and believe that the new management team we have there will continue to further accelerate the remarkable turn around started in 2005.

The Latin America market continues to grow. Our management team has demonstrated the ability to capture opportunities and cope well with challenges in the region, and we're confident that profitable sales growth will continue there.

The Asia-Pacific region is a mix. Japan is coming back from a long-lasting slowdown, and that's positive news since the Japanese market is keeping a long-term investment and [Indiscernible -- heavy accent] our partners Sekisui Chemical has made huge efforts to make our joint ventures in Japan and China successful.

I am happy to say the results are coming along quite well there. Australia an important presence for us, continues to show a trend of plant closures as companies look for lower cost manufacturing locations within the Asia-Pacific region. China continues to grow out between 9% and 10%, but being profitable there while managing a healthy cash position continues to be a challenge for many. We are confident that the situation over the years will evolve but in the meantime I am happy to say that H.B. Fuller China continues to deliver profitable results.

Now let me comment on the competitive landscape. In contrast to many of our competitors we pursue the differentiating approach focusing on profitable growth versus volume growth. Most of our competitors exhibited a delayed reaction to the significant run up in raw material costs. It is difficult to see the larger picture in this pursuit especially given the fact that raw material costs constitutes between 70% and 80% of cost of goods sold for our industry.

The extent of that suggests that many of our competitors have experienced somewhere between six to nine points of gross margin contraction since the end of 2004. This is in stark contrast to our financial performance and expanding gross margin. More recently, however, we have seen some of the leading global players come to the realization that their course of action was not sustainable which is encouraging.

As we discussed in the past, we will continue to focus on growing both organically and through acquisitions, acquisitions that are meant to be strategic. We intend to utilize our significant cash generation to fund both endeavors.

In my opening comments I talked about the journey we embarked on over the last two years and the dramatic improvements we have achieved. The good news is that we are not done, and that the journey continues. Although faced with a challenging economic picture and contracting construction and automotive sectors in North America, we are committed to accelerate our performance in 2007.

Consequently, for fiscal year 2007 we expect to earn between $1.58 and $1.68.

Let me leave you today with some key thoughts. First, I want to reinforce that we have the right strategy, a strategy focused on differentiation and customer intimacy. Second, we have established a culture of continuous improvement and therefore expect to evolve as an organization. Finally, I am realistically optimistic as I look at the year ahead.

We have good people in place. We have the right tools, and with lean processes. We remain focused on profitable growth, and we look forward to the year ahead.

In closing I thank our employees and joint venture partners for their hard work, dedication and collaboration, our customers for their loyalty and trust, our suppliers for their ongoing support, and our investors for their long-term perspective.

Thank you again for joining us today, and I will now open it up for your questions.

[OPERATOR INSTRUCTIONS]

The first question is from the line of Jeff Zekauskas with J.P. Morgan.

Hi, good morning.

Good morning, Jeff.

A couple of questions.

First, can you detail the price, volume, FX, acquisitions in sales for your two segments? Adhesives and Full-Valu/Specialty so we can analyze the sales?

Jeff, this is John. I have that on a consolidated basis. As you know we don't break that out on a segment basis. Do you want it on consolidated?

No, I don't want it on consolidated basis.

Second or can you talk about in some qualitative terms, then, exactly what happened in the Full-Valu/Specialty area because it seems you're down quite a lot?

Well, Jeff, clearly it is public domain the sudden slowdown in construction in the fourth quarter it affects big time the Full-Valu/Specialty group, to a lesser extent the Global Adhesives group, but clearly we've seen contraction there, and that's affected several components of that business including clearly the acquisitions.

I guess just secondly, I am a little puzzled as to why you treat the tax benefits as a non-recurring item in that you talk about it being the result of the geographic distribution of your sales which just sounds like normal operating procedures, and if so, shouldn't your tax rate be markedly lower next year in that you probably are not going to have that different geographic mix?

Jeff, this is John.

What we were trying to do is make sure that we were very transparent to make sure there was an apples-to-apples comparison on Q 5 versus Q 6, and what the quarter is benefiting from is really two different things. You have a increased impact from the geographic mix of earnings, and that's mainly coming from Europe, and then you also had the strength of other non-U.S. businesses as well, and then the third component was in the quarter we also recognized the tax benefits of some NOLs that were on the balance sheet that were related to non-U.S. operations as well.

The other point that I would like to make is going forward, and the reason why we don't expect that to continue at such a low rate is you have a couple of things going on. The first is an ETI benefit which is essentially an export income tax benefit where we had a benefit in '06 that will be not recurring in '07.

The second point is our low income housing which I talked about in the past. We're really at the tail end of that, and so that kind of credit amortization is going to go away as well, and the other point is, again, the nonrecurring nature of the NOL benefit that we recognized in Q 4 of '06 will not recur in '07, so when you combine those three elements, that's going to bring us back to the effective rate of the range of 29% that I discussed in my script.

And lastly, in terms of the mid-point of your guidance is $1.63 for next year. What are the assumptions behind that in terms of volume or price or SG&A level, gross margin, or whatever you've got. That is, what's the intellectual under pinning of that number?

Jeff, basically the way I see this is if the economy shows a different trend than what we have seen in the fourth quarter, the raw material deflation comes through as being pointed out recently, and we execute on all the controllables properly, we will end up on the high-end of that bracket which is on the -- I would say 14%, 15% year-over-year growth which I would say is another stellar performance.

At the same time we want to be very realistic because, yes, we can put our effort and commitment which is granted since we're still the same that did it for two years in a row but clearly the economy is a key variable that we have to look at.

At the same time all the things that we have stated in our scripts are already included in our guidance, and that means that clearly if the economy doesn't help us, we will be on the lower end of that bracket, but we're trying to be pretty accurate in our forecast, and we believe in that range.

Okay. Thank you very much.

Thank you, Jeff.

Your next question comes from the line of Tim Aquino with Keybanc.

Good morning, guys, can you hear me?

Good morning, Tim.

Good morning.

I guess, first off, looking at the 7.2% decline in volume, can you maybe talk a little bit of how much of that was due to repositioning strategy relative to say any material weakness in the end markets that you commented on? Is it possible to sort of differentiate between the two variables?

Yes. Look, overall no process has zero defects. We are striving to get there, and hopefully we will get there one day. So clearly we are not exempt from having made mistakes, but overall the equation that we have seen has been pretty positive.

Vast majority of the customers have worked with us to recuperate the costs, but it is clear that no company likes receiving from one day to the other a 20%, a 50%, or 100% pricing increase. For sure we don't like that, so sometimes there have been discussions in terms of really understanding the value of our services and products, but as I said earlier, several customers are coming back because they value our offering.

Gotcha.

So I don't know, would you say about half of that is due to the -- what you just discussed, your repositioning and customers not coming back and then the other half due to the end market weakness in terms of --

No. I certainly would not be happy with a 50% ratio. It is much, much smaller than that.

I would like not to get into that specific detail, but take into account that we have put this process in place. They're looking at several things, and the key one is the alignment between our selling prices and our cost to serve, and as you can see that is independent from raw materials and is a process that takes a lot of time and that is what we call repositioning.

We have been working very closely with the accounts to align our pricing with our cost structure, and the vast majority of the cases has worked out pretty well. That's why I am cautiously optimistic for the future, Tim.

Gotcha.

So the key take away it sounds to me that most of that volume was due to just unpredictability of the overall end markets and going forward it seems that we should look toward that end market variability as sort of the gauge when we do our volume predictions.

It is not so much as internal initiatives as it is sort of fits and starts in the economy?

Well, overall I think that through pricing we have created a competitive advantage, but pricing is not just repositioning.

Pricing is also understanding the full value of all the new business that you are bringing in, and pricing is also managing the mix, make being sure we get in more of the profitable business rather than commodity low price, low margin business.

All right. Thank you for that detail.

One final question here. When I back out Al's departure package, looks like SG&A is around 17.5% of sales. How sustainable is this going forward?

Tim, this is John. I think it is very sustainable. As we alluded to in the earlier discussion, this has been a focus area for the firm. It is one that we take very seriously. We have very rigorous processes in place, whether it is around attrition management, measuring our ongoing spend, and again as we discussed before, Lean/Six Sigma tools are not just used in the manufacturing and cost of goods sold.

They're used throughout the organization and through all the functions, and you will continue to see us focus on that area as it is a continuous improvement process as Michele said.

Thanks, John.

Michele, welcome aboard.

Thank you, Tim.

Your next question is from the line of David Begleiter with Deutsche Bank.

Thank you. Good morning.

Good morning.

Michele, just on the repositioning, when will the bulk of that be completed? When will you stop walking away from a material amount of low margin business?

It is clear that the bar is continuously raised. I can tell you it is an never ending effort, specifically when you're successful in changing your mix and in bringing higher specifications related value-added business every day, so that I would say is the mix component.

At the same time we are trying to make sure that we walk this line in a balanced way and that we take into account our cost structure and the impacts of volume on factory label and manufacturing overhead where several components are valuable but several are fixed.

Again I would say we're trying to remain in a very balanced approach but it is [Indiscernible] and that's why I am talking to processes that are built to last not just price up because of raw materials. It is total changing culture, more discipline, not only on the current business but also in the new business coming in.

Understood.

Just on that answer, we should expect at least in at Adhesives negative volume comps for all four quarters in 2007 given this continuing effort?

Well, we have not clearly said that. I would say that our big effort and commitment is to really deliver profitable growth, and big component of this has to come from organic growth.

Based on what I see and the comment that I made earlier of accounts coming back and new substantial accounts landed in the profitable areas I am optimistic.

Just on the selling price issue, if we were to see a material decline in raw materials, what's your confidence retaining a portion of the selling price increases that would put in place to partially offset the rise of raw materials?

I think it is all dependent, not all but vast majority dependent on how are we able to execute in communicating the value of our products and services to our customers, and in continuing to keep our promise. So clearly I am confident that that is going to be successful for us, but we will do that in partnership with our customers taking into account we have a fragmented customer base, and we also have more than 2,000 raw materials to manage, some of those go down, some of those go up, so there is a lot of variance around all of those numbers. That's why we need processes to stay on top of them.

Last question on uses of cash in '07, can you comment on debt reduction, perhaps share buyback and is how the M&A landscape is looking right now?

Sure. We are continuing to delever as aggressively and prudently as possible. Part of the challenge that we have, for instance, in the powder coatings sale, part of that cash ended up in the U.S. Part of it ended up in the U.K. From a tax efficiency standpoint, very expensive to get it back to the U.S., but we have fully paid off our revolver debt.

If you recall we're historically -- the Q1 is our weakest quarter from a cash flow standpoint. We have a number of items that we will be paying out. We have amortization of private placement of circuit 25 million in the first half of the year, and we will continue to look to generate strong cash, look at the best returns that we can get, and with the cash that we have deployed in the U.S. and externally, that's going to be the fuel for our acquisition strategy.

How is the landscape right now, John, for candidates out there?

I think the pipeline is pretty robust. We've improved some of the processes in our corporate development team. We have a lot of lead generation coming up through the business on both sides of the house, both in the full value and global.

I can share with you that it is global in nature, and we continue to be confident that we're going to be aggressive on that front where it is prudent and we can get acceptable returns.

Thank you very much.

You're welcome.

Your next question comes from the line of Christopher Butler with Sidoti and Company.

Good morning, gentlemen.

Good morning.

Just wanted to follow up on the last question and ask about the integration of Roanoke and the Henkel's Windows Sealant business. Is that about completed at this point or is that soon to be? Can you give me some color on that?

No, we're not completed. Everything is in the works.

Clearly it got a bit steeper, and we have got to accelerate on our efforts on both the back office and the front office due to the not only slowdown in construction in north America but also in due to the inventory rebalancing of key big box retailers.

For sure the European business has delivered results more quickly, but we are still extremely confident with both acquisitions.

And in a similar nature are you seeing better valuations of companies that deal with the construction business due to the slowdown that we're seeing?

Well, clearly as raw materials have paid at all in the earnings of several of our competitors, the construction slowdown is affecting everybody and having an impact on valuations. I think we have an edge to several of our other competitors due to our global presence, and when we're speaking of cross-selling synergies, we're committed to leverage the entire H.B. Fuller company to leverage the retail channel opportunities, for instance, that Roanoke brings and several of our regional and local competitors don't have that advantage.

And when talking about the operating environment in the United States, softening during the fourth quarter, was there a point in time during the fourth quarter that you could specify that sort of became apparent that things were starting to soften a little bit?

Well, our quarter is September to November. I would say that it has been pretty gloomy for the entire period.

We're following these very, very closely, but clearly when you're speaking of new construction you're speaking of ranges that may get into the 50% area.

And speaking of outside of automotive and construction?

Clearly there has been some ripple effects and global segments like filter which is indirectly tied to parts of automotive into the furniture market and also in some of the packaging for durable goods that also is somehow tied to the overall economic activity.

We have seen in the fourth quarter again clearly very dramatic contraction in automotive and construction North America but also an overall slowdown of the general manufacturing activity not just those two segments.

Thank you for your time.

Thank you, Chris.

The next question is from the line of Chitra Sundaram with Cardinal Capital.

Hi. Congratulations. It is a great start to your year.

Thank you.

You're very welcome.

I had a couple of questions on the Global Adhesives business. I think I am correct that Roanoke and Henkel's will go into value specialty. There is no acquisition impact going into Global Adhesives, correct?

In Global Adhesives there has been minor impact of small acquisition that we made in North America into the water-based technology area, and also a continuation of the divesture of smaller business in North America, so I wouldn't characterize that as something that is material, so overall it is mainly the organic call business.

Could we discuss that, because clearly looked very strong from an operating margin, and I am assuming from the quality of the revenue perspective. I know that in the previous calls Al had mentioned that almost 70% of additional revenues were now Specialty, and then you all had mentioned certain like electronic materials as sort of sectors you would like to enter.

Has it been that you've all been able to capture key clients there that really helped the profitability, or what has been going on that made it as strong as it was?

First of all, I think that when Al was speaking of 70% specialty from 70% commodity was speaking more of a goal, and clearly I totally agree with that. I am committed to that. We're moving in that direction, but that doesn't happen over night.

As I said earlier in my speech, when you are walking away from low margin business, typically in the commodity area, that goes away pretty quick. While identifying, developing leads, working on them with customers on their longer cycle, profitable areas, specification related businesses takes more time. On top of that which has been something we have driven within the organization you have to factor in also in the fourth quarter when you really analyze the top line this slowdown of the economy, so that's why I said that I am positive towards the evolution.

Clearly we still have evolution in that business. Happy to say it is mainly in the low margin areas, but also we see a lot of new business coming up. Top line an aggregate number with typical, dissected in several components in what we call a dynamic model.

Okay.

Is it possible to have some idea of your percent of sales from new products. Is that still 17%, 18% range or has it gone up from there?

We are getting closer to 18%. The most exciting thing is that the profitability is high as higher than the business that we have been walking away from, and is following also the Lean/Six Sigma tools in terms of really doing properly the specification work with accounts and avoiding things typically you get later on with claims because you didn't do a good work up front.

Yes.

My last question on uses of cash with 255 million on the balance sheet clearly a good chunk of that abroad. With very manageable leverage, is there any thought to perhaps having a combination strategy of levering up to cash to shareholders plus M&A or does it have to be an either/or?

Well, before I turn it over to John which I am sure he is going to shed even more light on this, let me remind that cash generation is due to several things.

One of those is clearly the impressive performance from the business side of the networking capital because everybody has really been on top of receivables, payables and inventories, and we've done great improvements there but it is also tied to the slow rates of growth.

Moving forward, we can expect to get with our commitment to profitable organic growth that that will absorb a part of that cash.

On top of that, John, if you want to add something.

Chitra, one of the things we reported is that number was right at the end of the quarter and subsequent to that period of time we did pay down the remaining 62 million that was outstanding in the revolver, and then in line with the sale of the powder coatings business we will have a tax payment probably I would say in the 10 to $15 million range in Q1 as well, so we -- our cash situation as I said is historically slower in Q1.

We're being very aggressive in deleveraging where we can in the most efficient basis from a tax standpoint, and we also have plenty of dry powder for lack of a better word and flexibility, and as you know in our M&A strategy it is not based just in the U.S. It is based globally, and we'll be able to use that cash accordingly.

Thank you so much.

You're welcome.

Thank you.

Your next question is from the line of Rosemarie Morbelli with Ingalls Snyder.

Congratulations.

Thank you, Rosemarie.

Most of my questions have been answered, but as a clarification when you talked about SG&A being at a new level at 17.6%, is this a new level for the fourth quarter? It sounds to me as though it is too low for the full year and fourth quarter may have -- and at least this quarter -- may have had an unusually lower SG&As than the first quarter is going to have, for example, and therefore while this is a sustainable level, it is not an annualized sustainable level. Am I correct?

Well, clearly we are very pleased with the level of discipline we have put around cost controls. Take into account a lot of this has been strategic in nature, not just tactical. A lot of that has been the result of several turn arounds in several regions, and (indiscernible) and is part of our philosophy of continuous improvement.

Therefore, you know, what I am trying to state here and then I will hand it over to John for more specifics around the financials, what I am trying to frame here is that this is not over. This is not a restructuring or just simple cost-out event. This is part of a trying to review how can we be more efficient in whatever we do. More efficient is not always cutting costs. Sometimes it is doing things better, eliminating waste and being faster in our decision making.

John, would you like to add something?

Yes.

Rosemarie that was a very low rate in the quarter, the lowest since I have been here in four years at 17.6, and if you normalize Al's expenses out on a full-year basis, our run rate was under 20%, 19.7% , 19.8%. That's low from where we were three or four years in the mid-20's.

I think to echo Michele's themes as part of the transformation and cultural shift you have a number of things going on. As I alluded to earlier, we're utilizing the lean Six Sigma tools not just in the plants and manufacturing and our pricing, but we're calling across every function with the organization whether it is HR, finance, et cetera. So we are taking a very hard look at that and doing more with less.

We have a very well defined attrition management program in place, and again we think we have a very good balance there. I think the take away is it is a continued focus area for the organization. We're pleased with our results and it will get continued emphasis in the future.

Do you have a long-term goal on an annualized basis for that SG&A as a percentage of sales?

Yes. Our long term goal is to be somewhere less than right around 18%.

At the same time, Rosemarie, you understand that those goals over time may need to be revisited in line with the strategy.

Again, remember we're going for a depreciated strategy, and there may be areas where we will need to add resources and leverage some of the spending not as philosophical spending but in terms of investment.

Okay. Understood.

You gave us in the prepared remarks the operating income by segments. Somehow I cannot find the revenues by segment. Do you have them or did I miss them in the text?

Hang on one second, Rosemarie, we have that. The revenue by segment, Global Adhesives 263.5 and Full Value 132.1.

Okay. Thanks.

For a total of 395 and change.

All right. Thank you.

Very welcome.

And you talked about reviewing your product lines on a constant basis and continuing to eliminate the lower margins businesses and so on. Any thoughts on additional divestures that would cover other areas that may need to go out the door?

Rose Marie, the portfolio analysis that we did during the year has been very, very total, so total we have already executed on one of those which is the powder coatings divestiture which was clearly a strategic divesture, and very well executed, and that clearly as we are continuously reviewing our portfolio and that talks both about acquisition and is divestitures.

What is clear is that even nonstrategic parts of the portfolio are going to be managed until we a reasonable economic and strategic exit.

So I am assuming that you're referring to the automotive business?

Well, Rosemarie, we've always been clear that automotive was clearly non-called to our portfolio, but we are also very, very proud to see that we have been able to manage operationally very well that business, not only as far as North America is concerned but on a global basis with our joint venture partners, and today that business is much better off than one year ago, and that is good for everybody.

Ladies and gentlemen, we have reached the allotted time for questions and answers. I would now like the turn the conference over to Mr. Steve Brazones.

Thank you.

We would like to thank all those who took to listen and participate in today's conference call. Have a good day.

This concludes today's conference call. You may now disconnect.