H.B. Fuller Company (FUL) 2008 Q3 法說會逐字稿

Good morning, and welcome to the H.B. Fuller third quarter 2008 investor conference call. At the request of the Company, this conference is being recorded for instant replay purposes. This event has been scheduled for one hour. Following today's presentation, there will be a formal question-and-answer session. Instructions will be given at that time should you wish to ask a question. Management in attendance on today's call includes Mr. Michele Volpi, President and Chief Executive Officer; Mr. Jim Giertz, Senior Vice President, Chief Financial Officer; and Steven Brazones, Director of Investor Relations. At this time, I would like to turn the meeting over to Mr. Steven Brazones. Sir, you may begin.

Thank you, Sandra, and welcome, everyone. Today's conference call is being webcast live and will also be archived on our website for future listening. In addition, this 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 our 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, operating income, earnings before interest expense, taxes, depreciation expense and amortization expense, or EBITDA, and return on gross investments, or ROGI. Operating income is defined as gross profit less SG&A expense; EBITDA is defined as gross profit less SG&A expense, plus depreciation and amortization expense; and ROGI is defined as trailing 12 month gross cash flow divided by gross investment.

These measures should not be construed as an alternative to the reported results determined in accordance with GAAP. Management believes the discussion of these measures is useful to investors because it assists in understanding the operating performance of the Company and its operating segments, as well as the comparability of results; and it provides insight into the ability of the Company to fund such things as debt reduction, acquisitions, and share repurchase programs. The non-GAAP information discussed today may not be consistent with the methodologies used with other companies. All non-GAAP information is reconciled with the reported GAAP results on the last pages of this presentation. For more information, please refer to our recent press release, Quarterly Report on Form 10-Q and Annual Report on Form 10-K, filed with the Securities and Exchange Commission, both of which are available on our website, at www.hbfuller.com, under the Investor Relations section. I will now turn the call over to Michele.

Thank you, Steven. Good morning, everyone, and thank you for joining us. About two weeks ago, we released our preliminary results for the third quarter and revised our full-year guidance. The numbers we are reviewing today are fully in line with the preliminary figures we discussed at our conference call on September 8th. Since we have already covered much of this ground in our earlier call, I will try to make my prepared comments brief today so that we can spend more time on your questions. Let me start with a broad overview of the quarter. Raw material costs, which have been a head wind for us the entire year, increased further in a rapid and unpredictable way and significantly more than we expected. As a result, our pricing actions, although improved, were not enough to offset the increased costs.

While our resulting financial performance was disappointing, we believe the situation we faced in the third quarter was extraordinary and expect the cost versus price relationship to be more manageable as we go forward. We have already accelerated our pricing actions, and believe we will fully recover our raw material cost increases in the quarters ahead. Despite the challenges we faced during the third quarter, we continued to make progress on a number of fronts. Let me share some of these highlights with you. First, our organic sales trend continued to improve in spite of growing weaknesses in many of our end markets; and we expect this trend to continue to improve in the fourth quarter, ultimately leading us to a return to positive organic growth. Second, significant pricing actions were taken. These actions raised average selling price by 2.6% year-over-year, nearly three times the increase achieved in the second quarter. Third, SG&A expense controls and continued scrutiny of discretionary spending drove SG&A down year-over-year in both absolute and percentage terms. Fourth, we reduced our networking capital position by 60 basis points versus the second quarter, further strengthening our already solid balance sheet.

Fifth, we made significant enhancements to our leadership team with the addition of Jim Owens as Senior Vice President and Head of North America, and the recent announcement that Barry Snyder will be joining us as our new Chief Technology Officer. Both are experienced leaders who are knowledgeable of the markets we serve, and each possesses unique growth capabilities. Last, but not least, we continued to invest in expanding our geographic presence with the acquisition of Egymelt in Egypt. Now, let me review our score card for the quarter and the year-to-date relative to our long term financial goals. As I mentioned in my opening comments, the top line trends continued to improve in the third quarter. Net revenue was up 3%, driven by favorable foreign currency translation. Organic sales, while down slightly, are heading in the right direction. Volume declines eased, and pricing momentum continued. As a result, we believe that we will be on target to return to positive organic growth in the fourth quarter, as we planned from the beginning of the year.

With respect to EBITDA margin, the raw material situation led to a deterioration of 390 basis points year-over-year. Operating costs were reduced by 130 basis points, partially mitigating the lower gross market margin. ROGI declined 50 basis points versus the second quarter. The decline was primarily due to the reduction in EBITDA. However, gross investment improved during the quarter, due in part to reductions in networking capital. Our last metric -- EPS growth from continuing operations -- while flat on a reported basis, was negative when the one-time tax benefit is excluded. In our pre-release on September 8, we provided a view on our fourth quarter, so we now have our first look at the full year.

In the fourth quarter, we are expecting net revenue growth for the third consecutive quarter. We expect net revenue of between 380 and $390 million, or about 5 to 8% above last year. We are expecting to post organic sales growth in the fourth quarter for the first time since 2006. Organic sales growth in Q4 will be driven by several factors, including acceleration in pricing actions, new business wins, and easier volume comparisons. The fact that our outlook for net and organic revenue growth are similar indicates that we are expecting significantly less foreign exchange translation benefit in the fourth quarter. Of course, the key metric that has impacted our performance this year is gross margin. We have suffered a significant drop in sequential margin percentage in the first three quarters of year.

Based on our current view of raw material costs and our pricing actions, we expect our gross margin to be higher in the fourth quarter than in the third quarter. Clearly, the rebuilding of our gross margin must accelerate in the first half of 2009. Finally, we expect our EBITDA margin to improve in the fourth quarter, as we plan to continue our tight controls on discretionary spending through the end of the fiscal year and we spread our operating expenses over a higher revenue base. In summary, gross margin pressure has been the headline for this year; but our ability to maintain positive momentum on revenue and manage our EBITDA margins through cost controls have been the bright spots in an otherwise difficult year. I think you are all aware of the general story around raw material costs in our industry, since we discussed the situation at length in our recent conference call. So let me just reset some numbers today and make a few comments on our forward outlook for raw materials.

Our raw material costs were up approximately 7% sequentially and a 17% year in the third quarter quarter. For the full year, we anticipate raw material costs will be up between 16 and 18%. This equates to approximately $75 million in additional expenses in 2008 for H.B. Fuller. To put this in perspective, that is more than 50% of our operating income in 2007. So what do we expect for the future? For the time being, our raw material costs remain at high levels. In fact, we are planning for additional cost increases in the fourth quarter. Also, some key raw materials remain in tight supply, and this situation has worsened in the aftermath of the recent hurricane in the Gulf of Mexico. Clearly, our competitors are dealing with these same market dynamics, and this is reflected in the traction that price increases are getting in the business marketplace. Based on the historical factors, we expect our raw material costs to generally track the cost of oil and natural gas. However, in the short term, there is typically a lag between reductions in the cost of crude oil and any meaningful reduction in the cost of the by-products we consume.

Our plan is this. We are going to work hard on the sourcing side to achieve the best possible terms from our suppliers. We are going to continue to reprice our products to reflect the challenged higher costs of raw materials; and wherever possible, we will reformulate our products to best utilize the available raw materials, given the new cost and availability environment. We believe by doing all these things well, we will achieve good operating performance in future quarters, regardless of the future trends in feed stock costs. Now, let me switch gears and speak of happier targets. While dealing with our short term challenges, we have not neglected the need to invest for long term growth according to our five year strategic plan. In fact, quite the opposite is true. We have accelerated our investment focus on the top line. We recently announced the acquisition of Egymelt in Cairo, Egypt. Egymelt specializes in hot melt and specialty water-based technologies. This acquisition will serve as our platform for growth in the Middle East and North Africa, one of the fastest growing regions in the world. It will also enable us to better serve our multinational accounts.

Accordingly, we intend to invest even further in this region to add additional capacity and capability in the quarters ahead. Regarding the investments we made earlier this year, all are progressing according to plan. In China, the technology center is currently in the build out phase, and we expect to be fully stocked and operational by year end. We are currently evaluating size in the Shanghai area for our new manufacturing facility, and we expect to make a final decision before the end of the fourth quarter of this year. Construction will begin in early 2009, and production should commence in January of 2010. In Latin America, the investments we made on the customer facing side of the business continues to fuel strong organic growth. Likewise, we have begun to see strong results from our talent additions to the sales and marketing organizations and investments in technology, and expect the momentum to build as we continue to augment our customer facing resources. Our technology initiatives just received a boost last week when we announced that a new Chief Technology Officer will join us at H.B. Fuller.

Combined, these investments demonstrate our commitment to expand our geographic presence and to position the Company for profitable organic growth. We anticipate investing in additional opportunities in 2009. These organic and external investments will focus on expanding our global footprint and strengthening our capabilities in target market segments and technologies, while keeping our options open for pursuing industry consolidating acquisitions. Now, let me provide a brief regional review of the business. Our reduced share one trend in the third quarter, all of them experienced margin compression due to the rapid raw material inflation. Let me highlight for you the other important developments in each region. In North America, the macroeconomic situation is lethal change from that of the prior quarter. Construction continues to be the weakest end market, and recessionary concerns have not abated.

While the region's net revenue declined, the organic sales strength continued to improve, despite the challenging end market conditions. This trend is expected to continue. In fact, we expect new business gains, together with price increases and easier comps, to lead to positive organic growth in the fourth quarter. Recent hurricane activity has led to even tighter supply conditions for several of our raw materials. In fact, we are currently on allocation for several raw materials. This tight supply situation is expected to continue for at least the next few months. For now, we believe that these supply disruptions can be managed without any meaningful loss of volume. Europe -- we have struggled somehow in this region this year, with year-to-date organic revenue 7.1% below last year.

Our volume has been impacted by a variety of end markets, competitive and internal issues that have created erosion that has outweighed the benefit of new business. With that said, organic revenue development was somehow improved in the third quarter, and we expect flat revenue growth in the fourth quarter of this year due to new business, a marked acceleration of pricing actions and easier comparisons. In Latin America, top line performance was strong. The third quarter pricing actions in the region were the most aggressive of our four regions, with average selling price up nearly 7% year-over-year. Organic revenue growth in the region was a solid 6.7% in the third quarter. Our adhesives business was flat, while the paints business posted a 15% increase. We expect organic growth in both adhesives and paint in the fourth quarter. The aforementioned price increases were not enough, though, to offset the rapid and unpredictable escalation in raw material costs that significantly affected profitability in the region.

Asia Pacific was again the strongest performing region in the third quarter, from both a top line and bottom line perspective. with double digit organic growth driven by new business wins, plus positive currency translation, the region grew net revenue by more than 17% year-over-year. Investments in the region continue to accelerate as part of our continued commitment to the growth of this region. Organic growth is a key metric for us, and we provide quite a few statistics in our various disclosures. Slide 12 that you have here in front of you comprises the data that we have previously disclosed in a format that shows trends over the past five quarters as well as our current outlook for the last quarter of this year. As you can see, our Asia and Latin America regions have been generating positive organic sales growth for the entire 2008 fiscal year.

The North America and Europe regions have been in negative territory all year, with the third quarter generating the best results so far, and positive improvements expected in the fourth quarter. All of these trends are supported by new business (inaudible), significant pricing actions, and lapping more difficult comparisons. All of these trends are in line with our guidance and the expectations we communicated before the start of this year. We are pleased that we have preserved these positive trends in spite of this year's difficult market conditions. As far as our current expectations for fiscal year 2008 are concerned, in line with the new guidance we provide on September 8th, I think everyone understands that this is a difficult time to make a forecast, since dramatic events seem to be unfolding every day now. With that said, we are confident in this outlook, and the entire organization is working towards these goals.

Before concluding, let me share with you our first view of 2009. From an economic standpoint, we expect the global economy to remain weak with the United States and Europe remaining the weakest. The possibility of a recession remains a risk. Regarding construction in North America, we do not expect to see an improvement; but we also do not anticipate at this point any further significant sequential declines from current levels. On the new business front, we expect the investments we made in talent at H.B. Fuller which were made in 2008 and which we continue to make today to lead incremental sales and help enhance the growth of the (inaudible) of the Company in spite of the environment. Likewise, we will continue to focus on geographic expansion and innovation to drive profitable organic growth.

We are planning a number of organic and external initiatives, and we expect to execute on a number of them in 2009. The rate of raw material cost inflation should moderate starting in 2009, but we continue to expect raw material costs to increase further over 2008. While the raw material market is expected to return to a more stable environment, we target to improve the effectiveness of our pricing actions. As a result, we expect to fully recapture all of the 2008 raw material cost increases on a dollar basis. Gross margin percentage will also expand on a sequential basis. Thank you for your time, and now we would like to open the call for your questions.

(OPERATOR INSTRUCTIONS). One moment, please, for the first question. Your first question comes from the line of Jeff Zekauskas with J.P. Morgan.

Hi, good morning.

Good morning, Jeff.

You talked about raw materials stepping up in the fourth quarter and being up roughly 16 to 18% for the year, which is consistent with what you had in the third quarter. Can you remind me how much raw materials were up in the first half and -- or what does that imply for your estimate of raw material cost inflation in the fourth quarter?

Well, right now -- and the situation, Jeff is very fluid, as you know, starting from oil, but then going to all the by-products. We expect the dynamic in the fourth quarter to go to a lower stress level, let's put it, versus Q3. That means that we don't expect too much inflation. Clearly, in the first half of the year, we had mid to single digits, and you've seen the spike in the third quarter. Now, clearly, June 24th on our call, we expected 13 to 15% for the year. Clearly, after that, what has happened, we have moved that to 16 to 18%. Clearly, third quarter is what we have seen been the worst so far, coupled also with a lot of raw material availability issues.

So if I understand what you said to me, Michele, you expect raw materials -- and this is my recollection from the previous conference call -- you expect raw materials to be up -- I don't know, 22 or 25% in the fourth quarter; is that right?

On a year-over-year basis.

Year on year.

We are somehow in that number, yes.

Okay. On the second question, second question is when you look at your pricing, if -- I know you have such good accounting systems -- and say you looked at it by month, and that in the previous quarter I think your prices were up something like .9 or .8%, and this time --

Right.

They were up -- you know, this time you were up way over 2 -- or 2.6. So, in the last month of the quarter, how much were your prices up? Or as you go into the new fourth quarter, how much are your prices up?

Well, consistently with the wording we have used, we are continuously accelerating. So, you can expect that towards the end of the quarter it is higher than the average. I would say that the biggest impact of price increases is expected in the fourth quarter. That's the main acceleration that we have planned for; taking into account, Jeff, that we are working in a very collaborative manner with our customers to make sure that our long term growth plans are not undermined. So we are recovering our margins in the fourth quarter, but we are doing that as judiciously as we can.

Okay. Thanks. I will get back in the queue. Thank you very much.

Thank you, Jeff.

Thank you. Your next question comes from the line of Douglas Chudy with Keybanc.

Hi, Doug.

A couple of questions. First, you have done a pretty good job at managing your SG&A expenses over the past few quarters; but you have mentioned the need for some further investment in sales -- sales marketing and technology. Should we expect to see a ramp up here over the next few quarters? And if so, can you maybe quantify the magnitude of that?

Well, overall -- I am going to give a qualitative answer, and then I will ask can Jim to beef the answer a bit more. Again, we clearly made a commitment to a five year plan, and we said that we were going to go for profitable growth, and it is clear that we are executing on the strategy, we are committed to it, and it requires also investments. Again, we have always spoken of investments and not really of spending. You have seen how careful we are, especially in the current environment. We are going to continue that way; but it is clear that some front line initiatives and some talent initiatives need some spending. So overall, as far as 2009 is concerned, you can expect for our investments to continue to accelerate. Jim, do you want to add something?

I think the only thing I would add, I think specifically in the fourth quarter I would expect our SG&A to be up slightly from Q3. That's what we can see right now. And then again, for 2009, the absolute SG&A spending will be higher. We haven't finished our planning exercises yet, so I am not sure that it will necessarily be higher on a percentage of sales basis. But certainly, the absolute dollar amount of SG&A spending will be higher based on the factors that Michele just mentioned.

Thank you. That's helpful. I guess secondly, as far as raw materials, have you made any internal changes to your forecasting tools? It seems like you did underestimate it through the first three quarters. Have there been any concrete changes you've made, or is it more or less just execution there?

Well, for sure, we have started putting more emphasis on trend analysis in order to start making even more bets moving forward. That is something where we have to get better, and we have started initiatives around that. But clearly, since this is cyclical and repeats itself over and over, the best way for success is quick reaction on the pricing front and to work continuously on customer profitability and not wait all the time for raw material increases; and doing that together with the customers, so that you (inaudible) your volume (inaudible). That's the secret for success long term, and that's what we are working on.

Thanks. And just one final question. Have you seen any noticeable shifts in customer demand to more commodity-type offerings due to the soft economic environment? Has there been any switching that could potentially apply downward pressure on your mix going forward?

Well, we have seen some of that; but we have also seen customers coming back because they realize that this is not a commodity, that there is a lot of tailor-made needs, there is a lot of service needs, and that's what we are good at. And that is what I would say you see in the trend reversal along the organic growth, in spite of a market that actually has been going in the opposite direction.

All right.

So we stick to what we said and that's our message on long term value, and we are going to do what is right, both short and long term, for this business.

All right. Thank you very much.

Thank you, Doug.

Thank you. Your next question comes from the line of Jason Minor with Deutsche Bank.

Good morning.

Good morning.

Just in addition to the organic growth, volume trends look like they're improving to some degree; so I am wondering, you know, when do you think you might -- this is sort of hazard a guess -- but pass over into positive volume growth?

Well, I agree with you, volume declines have been easing. At the beginning of the year, you remember, we were at minus 8%. Now we are minus 4.6 -- still negative, but we expect to get better in fourth quarter. I wouldn't get as far as to say that we will get to flat volume comparables. We will still be in the negative, but less than in the third quarter. Our target is to get positive volume growth next year.

Okay. That's very helpful. And then if we look at North America and Europe in the context of some of these volume shifts, can you just talk about what maybe happening with market share? Are others -- I mean, are you shrinking with the market, or are there issues with some share loss as people cut price? And sorry, if I can just append on that, maybe it ties in with a little elaboration on the competitive challenges in Europe you mentioned.

Uh-huh. Well, I think in North America, we had also some extraordinary share losses, specifically around the side of our construction side. So that is already one answer. At the same time, clearly when you look at our window business, at our specialty construction brand business in North America, and some of our woodworking and appliances business, and the adhesives business, all tied to construction, we all know the trend. So there I think that our teams in relative term have been doing an excellent job, and we have been halting -- or in some cases even gaining a bit -- of market share in some areas. I expect that to improve markedly in the quarters ahead because of the strategy -- the additions of talent into the organization. So, I think that in spite of a tough environment in North America, we are going to do a good job next year, both from a volume and an organic growth perspective. As far as Europe is concerned, I think there is a lot of work that we still need to do. Clearly, we saw something somehow improvement into the quarter. We expect that to continue in the fourth quarter. But clearly, Europe is getting closer to North America as far as the macro economic trends. Before, we started with the U.K. and Spain -- it was mainly in construction; and now, we see that it is propagating to the rest of the overall industrial output in Europe. So we hear a lot of pessimism, specifically in Western Europe, and we have to be prepared for that to still deliver on our results in spite of an economy that is going to get closer to the U.S. trends.

Very helpful. Thank you.

Thank you. Your next question comes from the line of. Tutra Sudrum with Cardinal Capital.

Thank you so much. Quite a few questions -- I will try to be quick. The first is on Europe. So when you said it was going to be flat. is that flat in terms of revenue dollars year-over-year or sequentially?

Okay. Let me see, Tutra, if I understood. As far as fourth quarter or 2009?

Yes. Sorry, you were talking about the fourth quarter, I believe, and I think you said it was going to be flat. And I just wasn't clear whether -- what flat was. It was dollars or -- ?

Well, what we expect for the fourth quarter is organic growth to be between 4 and 7% positive; overall revenue growth, including currency exchange, to be between 5 and 8%. And still we expect volumes to be negative, even if less negative than third quarter.

Okay.

That's for the overall Company. As far as Europe, we expect it to be, from a revenue standpoint -- that means including currency -- flat year-over-year in the fourth quarter.

Yes, okay. All right. Okay. Coming to the -- just staying on Europe, then, given the weakness that seems to be developing in Europe and your guidance of where you would like to end up on the revenue standpoint, it seems like pricing -- and you said this is -- that the crux of the market seems to be pricing. And the pricing that you'll have to get in the fourth quarter, given the underperformance in the earlier part of the year, is somewhere in the low double digits, it seems like. What can you tell us from a flushing out perspective that would help us get more comfortable that you will have traction? If I am right, then it has got to be somewhere in the low double digits.

Well, to get traction, the first thing I can tell you is that everybody is raising prices, because everybody, you know, has understood that there is not a lot of room when you have 15, 20, 25% raw material increases -- and on top of that, raw material is not available. So we have seen lately our competitors also raising prices, so there is more rationale in the marketplace. At the same time, we are making sure in an environment that actually is having some concerns as far as the demand, is to work with accounts on the overall cost to (inaudible) economics. So not just working on the pricing raw material equation, but looking at the (inaudible) of builders that are working to carry on reformulations. So I am pretty pleased with the momentum that I've seen there, and I see a greater focus from an organizational standpoint on the market segments we are pursuing. Also I have seen some pretty good steps in terms of new product introductions on the high margin side, on the differentiated side. So that is what tells me that in 2009, overall as a Company and also Europe, we are going be able to deliver in spite of a difficult environment.

I see. And I am assuming that this new Head of Sales is sort of broken in now? He's kind of comfortable with setting the agenda? Can you talk maybe a little bit about -- I'm sorry, not new Head of Sales. I mean new Head of Americas.

Yes, I can tell you that Jim Owens joined our team recently. So he has, I think, less than one month under his belt; but clearly, has more than 20 years of experience in our business. He is a very strong commercial person, is a great leader, and I have already seen him energizing the entire team in North America. I think he's a great addition to our executive committee team, not just in North America, and he will get all of my support and the support of the (inaudible) to make sure that 2009 is going to be a first great year for him in the Company.

And then lastly, on the pricing issue, so if we are expecting additional raw you material increases in '09 over the 16 to 18% -- hopefully, it will be more sort of in historical trend line, the fact that -- I think you were saying that would make up the gross margins that were lost in '08. Does that mean that we will still remain behind the curve because you would have made up '08, but you are not completely sure you will be able to make up '09? Or is the goal to -- when do you expect to catch up, in other words, to '08 plus '09?

Well, you know, I have seen the situation is extremely volatile. I mean, we have -- only one month ago, everybody was saying, well, what are you going to do with pricing, since the oil is going to go down below 90? And a few days ago we were back at 120. So I think we have to be very, very cautious. We are still in the middle of the planning session, as Jim said. We are monitoring these very closely; but one thing is clear, is gross margin percentage is going to increase sequentially versus our current point, but right now we're at 25%. So clearly, it will go up. As far as the speed and where we will get, we will have to be more clear in the months ahead, in the next conference call. Clearly, you can expect the gross margin to improve. The point is, how much and by when? We are working on it. The expectation is that we are going to recover all of 2008 and all of 2009 raw material increases. But getting to gross margin recovery is something we are working on together with the teams to make sure that it still enables us to deliver on the long term strategy.

Sure. Just a couple of housekeeping if I could. Unless I missed it, Jim, would you be able to give us what the D&A, CapEx, cash flow from operations and the free cash flow was for Q3?

Yes. Just one second while I move to it. Lest see. Free cash flow from operations was -- cash flow from operations was 22 million in Q3. That's the first part of your question.

Yes. And then -

CapEx? CapEx was 5.5 million.

D&A? Oh, I'm sorry. You gave D&A already in the press release.

That should be in our press release.

Yes, yes, it is. It is. Sorry.

That's what you need then?

Thank you. That's it. Thank you so much.

Thank you. Your next question comes from the line of Christopher Butler with Sidoti & Company.

Hi, guys.

Hi, Chris.

Just wondering, following up on your comments on oil, what assumption do you have for oil for the fourth quarter that underlies the, you know, the 22 to 25% increase in costs that you had mentioned earlier in the call?

Well, you know, right now, we are working on the assumption that it is going to start stabilizing more; and everybody thought it was going to stabilize or go a bit down, then we've seen it spike again. So, I think we have to look at several things happening in Washington to see what is going to be the reflection. Take into account anyway, Chris, that our raw materials, even if long term, they are tied to oil. The lag is consistent. We have by-products, so I can take care of five to six months to see there it was a meaningful reduction, which we don't see yet, to impact our measure.

Well, I guess what I am trying to get at there is, you know, if we find that oil stabilizes at, you know, 130 to 140, would that -- would that, you know, mean greater than the 22 to 25% looking into 2009? You know, where is, say, a general line that we can look at there?

Well, right now, at this point in time, as I told you, we are still in the middle of the planning. Gut right now, we are more looking at a more stable environment for raw materials. Clearly, when we will get closer to the fourth quarter guidance, we will have more data, and I guess we will be more accurate -- or let's say we will try to be more accurate.

And touching on your comments about, you know, confidence of getting price increases through, you had mentioned market segments. Could you give us an idea of regions of the world or product lines that have proven to be more or less receptive to price increases that you have seen so far?

Well, right now, we see, on general terms, price increases sticking. Everybody is raising prices aggressively. Also because in many cases, there is limited raw material availability. So it is not that there are lots of options, unfortunately, neither for us nor for our customers. So clearly that is a trend that is happening everywhere, from North America to Asia, Latin America and Europe. Our teams are working diligently to make sure that we get it, but that we can get to a successful agreement with our customers. But overall, there is no region of the world that has a total different trend from macroeconomic or comparative standpoint, then it goes back to our internal execution ability.

And finally, is it too soon to be looking at the (inaudible) deal as increasing competition for you? And you know, what kind of impact on business, and specifically pricing, are you looking at, and when do you think that is going to really start to have an effect?

Well, I think that DOW itself is still trying to understand what pieces of the business they want to keep, they want to focus on; so, we, I think all need to get clarity around that, and I don't know if I can comment on that right now.

Thank you for your time.

Thank you, Chris.

Thank you. Your next question comes from the line of Dmitry Silversteyn with Longbow Research.

Good morning, gentlemen. A couple of questions -- a lot of mine have been answered -- but I would just like to understand a little more about your expectations of improving year over year growth -- organic growth dynamics in the top line. You talked about organic growth improving in the third quarter versus the second quarter, driven in part by new business. Can you talk about, you know, a little bit more detail on what new business and which geographies or which product lines, or who you are getting this business from? And also in terms of the improvements you are looking for the fourth quarter, given that as you said yourself, you know, Europe is deteriorating, America is not getting much better, is it a question of year-over-year comps getting easier, new business, picking up steam? You know, obviously, pricing is going to be an impact in there. Can you just talk about those dynamics a little bit?

Well, for sure, already starting in fourth quarter, we see easier comps. We see easier comps specifically in North America, and a lot of that is related to the Roanoke business; but at the same time, we see the acceleration price increases, and we see also the acceleration of new business. The new business we are getting, a lot of it is in specifications related things -- in many cases new applications, so there is not even competition there. But, overall, we see that our greater focus on the packaging, specialty wood, non-woven areas, in the business side is starting to pay back. We see very, very good platforms there, both customer-related and new product related. So that is what is giving us strength. Even in Asia Pacific, our growth -- a lot of that -- is into some of the problems that make us unique, and in many cases it is not a direct share shift from reactive hot melt to reactive hot melt or (inaudible) to hot melt; but in many cases it is (inaudible) formaldehyde to reactive hot melt or water based to reactive hot melt. That's part of our strategy and what we are executing on.

Okay, okay. (Inaudible) if I may ask correctly, the $75 million in raw material cost increases that you think you will experience for 2008, that -- roughly speaking, that's about a 5% of 2007 revenue. So you need about a 2.5 to 3% increase in pricing to recover the dollars, which is what you are hoping to do into 2009; but it sounds like recovery in margin, in terms of start posting year-over-year positive gross margins, is probably going to have to wait until 2010. Is that a right way of thinking about it?

Can you repeat the question, because I don't think -- ?

I just want to make sure I understand that when you talk about price recovery, in terms of gross profit, you are talking about recovering the dollars; but in a sense -- or that would mean, at least, is that your margin would still be comping down in 2009 year-over-year, and it will have to be 2010, you know, assuming everything else stays the same, that you are going to actually start having positive year-over-year gross margin comps?

Yes, (inaudible), Dmitry. That's a pretty good way of putting it. We are working on pricing. As I said, the gross margin is going to get sequentially better in 2009, but as far as where is it going to stop, and it is still too soon to call. Clearly, there are are challenges because of the lag of recovery of some of the things that happened in the first half of '08. So it is going to take some time. We are working on it and we will be more specific in the fourth quarter. Jim, do you want to add something?

No, I think that's fine.

Okay, and then the final question ,if I may. You know, the Henkel ICI deal or the (inaudible) National Starts deal, now had a chance to be in the market for a few months, are you seeing any changes in dynamic in the behavior of dynamics as far as competition is concerned? Are you picking up any customer that is are dissatisfied with one tor other of the parties merging? In other words, is this being a positive for you, or is it too soon or to tell, or is it being a negative?

Well I think that what we share with Henkel, National, and all of the other competitors is an effort to procure raw materials, to try to mitigate the raw material increases, to try to get price increases in marketplace; and I think that while we share that, they have an additional challenge overall, which is getting the integration going, like (inaudible) will get with (inaudible), and we are more focused in investing for the future and delivering on our five year plan.

Yes. But you are not seeing any changes in the competitive environment yet that would be a benefit or a detriment to you?

I think everybody is so busy in getting the price increases and working on the raw material that I think it is good for the industry that everybody -- both the locals, the regionals and multinationals -- are putting some rationality in place.

Okay, very good. Thank you.

Thank you, Dmitry.

Thank you. Your next question comes from the line of Steve Schwartz with First Analysts.

Good morning.

Good morning.

Michele, do you see any regional difference in the cost of your raws inflation, or is it pretty well consistent across all of the regions? I think in the past you had mentioned Asia sometimes didn't see the same level.

Well, in -- it is clear that Asia has been an extremely competitive market, and that has reflected somehow to lower inflation. But it is clear that now they're also catching up. Raw material availability issues are there everywhere and in every part of the world. Currency exchanges are adding additional rates, so we see inflation also there, and that's why we are also increasing the prices there as well. Clearly, it is less marked than the other regions; and you know, if you compare to North America, they are on the opposite parts of that range.

Okay. You know, in Asia, sequentially, it looks like your organic growth went sideways a bit. And you've got it recovering again -- or not necessarily recovering, but improving even more in the fourth quarter. What was the reason behind this softness in the third quarter?

Well, you have to take into account also year-over-year comparables of things that happened in the third quarter of last year. This is more an internal start and sometimes it shift from one quarter to the other, where you can have positive or negative (inaudible) in the unusuals. What I would say is Asia Pacific is on track. It is doing a great job. We keep investing, not just the China lab and not just the China reactive hot melt plants, but we are adding people in SG&A; it is the right way to fuel the growth. We are raising prices, we are focusing on the right mix of products and services, and we are doing what this Company has not done for 30 years, and clearly it costs some money. But we are committed to it and we belief there is going be a very, very good return.

Sure. So but the organic growth then in the third quarter, no impact from the Olympics and the shut down in manufacturing there? That wasn't behind that? And obviously, I think it is -- perhaps the view by some is bipolar on Asia -- China in particular. Some say it softened, some say there is a post-Olympic recovery. You guys obviously are thinking that China picks back up again?

Well, China, I think is -- can't slow down as an economy; but what I can tell you is that we have such a low market share that we should pay more focus on internal controllables rather than on what the market does. And that's what we are doing.

Okay, just one last one on Egymelt. You know, 4 million in revenue with synergies and so forth, you know, in the next four quarters, how much you to think you can add to that revenue growth there?

Well, actually, that is, I would say, the main reason why we bought it. We had several options to getting that fast growing region and this was the fastest. We think we have got a pretty good set up there with a pretty good team, and we are already investing to increase our manufacturing capabilities and our talent capabilities, and you know, we already working with accounts to get the synergies -- mainly commercial synergies -- impacting our ledger. So that's actually something we are very, very proud of, and I guess in the future you are going to see more of this.

That's great. Thanks, Michele.

Thank you.

Thank you. Your next question comes from the line of Rosemarie Morbelli from Ingalls & Snyder.

Good morning, all.

Good morning.

Michele, could you please give us an idea as to the percentage your new products represents of your total revenues in '08 versus '07, and what your expectations are for '09 since you are -- you seem to be making progress introductions?

Yes. We are always in the same range of 20 to 25% -- has not been moving a lot. What has been moving has been the mix during the year. In some areas, like performance products like the apoxies, the reactive hot melts, we are doing an excellent job of bringing in two new products on a high gross margin specification related. In the second quarter and third quarter, for more of the core products, the water base and the hot melt, a lot of, therefore a lot of time our teams have devoted to reformulating and being able to find a solution to lack of raw material availability. If raw materials stabilize, I think we should see an acceleration next year also on the core products, as far as the two new products and new platforms are concerned. That should be also father accelerated by the new entry of Barry Snyder as Chief Technology Officer. Remember, we never had that positions for at least the last 10 to 12 years, they told me. And that's a pretty big commitment and you can expect this guy have an impact, reenergize and reboost our innovation products.

And so do you think that in '09 with the additional boost, you can go above the 25%? Do you have -- I don't remember if you have a five year goal for those particular products versus the (inaudible).

Well, what I would -- yes, for sure we have the focus on getting on a stable to that 25%. I think key is the quality of those new products, that they are more profitable, they are more innovative, and that they are products that speak longer so that you can really secure new business in that direction. And also, what I expect is lots of those new products to help us getting to some of the new market segments that we are targeting, because the growth is both in getting to the new geographies and also in getting to some of these new market segments, not just delivering on the core.

And could you also give us an update on Roanoke?

Yes. I think that we can speak -- starting to speak positively about Roanoke. The team has dealt with what they inherited from the past, which was really difficult; has been able to deal with a really difficult construction environment. They have put several progress in place and I think they are trading better; and clearly, also help with some easier comparables, and they are positioned themselves well toward 2009 in spite of the economy.

So do you think that they will have a positive performance in '09 regardless of what happens to the construction world?

Yes. Better than in 2008, but let's be very fair and very clear. A lot of that is also due to comparables that for the first three quarters of this year were extremely negative.

Okay. And then if I could ask another question, you said -- if my memory serves me right -- that -- and that was in the previous conference call -- that you had not aggressively pushed price increases during the second quarter. And yet my understanding was that a couple of years ago, Fuller had really changed the way it did business and was really pushing increases aggressively and ahead of raw material costs increases. So, what is the change? Did you have a change of focus in the second quarter? Did you find that by being as aggressive as you were, where when the demand in the marketplace was good it was a good thing to do; but now that you (inaudible), it may not be -- you may need to change your position. Can you help me understand how you are operating?

Yea, well, the big difference is that in 2005 we had an economy that was going pretty well, demand was going up, and that is a totally different to do price increases substantially and quickly, versus an environment where people are concerned about keeping their jobs and keeping the factories open. So, today, we are facing a lack of raw material availability, inflation like we have not even seen in 2005, coupled with very, very low demand, and makes it more difficult. I am not saying that we haven't done all we could in the first half -- and I explained by disappointment with that --in but the big difference is that in 2005, the economy was growing; and today, unfortunately, it is doing far worse.

So what makes you think you are going to be successful in getting all of those cost increases?

Well, it is the belief in the five year plan that we announced on year ago. We started changing lots of things, from programs to products to focus, to organization; and clearly, it takes some time to start generating results. But you already see from some trends, that is starting to produce changes in trends on the organic growth perspective. You see that we are recovering on pricing, and we are doing organizing in terms of both volume management, in terms of geographic footprint, and that's what gives us the confidence.

Okay. That is helpful. And to go back to Dmitry's question, lately -- I mean lastly -- on the gross margin recovery. Dmitry said 2010 -- maybe it is 2011 -- but what is the goal to get back to the 28.4% gross margin in '06, or do you think you can get back to the 29.3 that you experienced in '07?

Look, first of all, our commitment with each one of you in that room at our headquarters in October was to stay focused on our four metrics -- organic growth, EBITDA margin, ROGI and EPS growth. And we stick to that commitment. Gross margin clearly is an indicator (inaudible) price in raw material equations, but we need to take into account the volume variable as well, and that's why we wanted to work on ROGI, and also keeping in mind the (inaudible). So, I would not like to get right now into a discussion on gross margin being again the metric that we put in the past, because we changed that and that was a clear rationale that we explained in October of last year. With that said, as I say, based on what I see now, and we're in the middle of the planning, gross margin percentage in '09 is going to increase sequentially. When we will get to that 29 or 30%, I don't know. The goal for us is to get a ROGI of 10, 12% by 2012 as outlined. So we are going to manage pricing. We're going to manage raw materials. We are going to manage mix. We're going to manage volume.

Okay. Thank you.

Thank you, Rosemary.

Thank you. Our last question, due to time constraints, comes from the line of Jeff Zekauskas with J.P. Morgan.

Just just two questions of clarification. Do you say the cash flow from operations was 22 million in the quarter?

Yes.

How is that possible? Because if your net income was, you know, order of magnitude, 22 and your D&A was, you know, maybe 11.5, and there wasn't much change in working capital -- at least I see it? How do you get to 22?

Yes, a couple of things, Jeff. First of all, obviously -- well, in our net income number, we have $4.4 million of tax benefit that's not cash. So that ones -- that's one of the factors,.

Okay.

And then if you -- once you look at the details of your balance sheet, basically whereas our inventory receivables and payables were actually -- I think that was pretty much a neutral factor in cash flow in Q3 -- it's all of the other items in current accounts -- or current assets and liabilities -- that went negative on us. So things like taxes payable, compensation accruals and things like that, were a negative cash flow item for us in Q3.

Okay. That's very helpful. And then, Michele, you said that some of your raw materials were on allocation? Which raw materials were on allocation?

Well, I would say that we have had significant issues related with the hurricanes and clearly [watches] have been, I would say, pretty weak and not available since the beginning of the year. Right now, what is pretty tight is due to rubber, (inaudible) polymers, (inaudible) resins. There is a long list that, in our (inaudible) is coded with a red color, and we have everybody in sourcing, but also in sales, working with supplies and customers to make sure that we mitigate this. And I have to say the guys are doing an excellent job, given the environment.

Okay. So I guess that's why you are optimistic about raw materials next year, because you have got some squeeze conditions that presumably should go away?

Well, it is always in relative terms, Jeff. I am not including shocks, right? Because if there is another hurricane or there is something else, that is uncontrollable. So give me two months to finish the planning season here at H.B. Fuller, and we will be able to be a bit more concrete in our expectations for 2009.

Okay. Thank you very much.

Thank you, Jeff.

Thank you, ladies and gentlemen. This does conclude today's H.B. Fuller third quarter 2008 investor conference call. You may now disconnect.