漢威聯合 (HON) 2014 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to Honeywell's second quarter 2014 earnings conference call.

At this time all participants have been placed in a listen-only mode and the floor will be open for your questions following the presentation.

(Operator Instructions)

As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's conference, Elena Doom, Vice President of Investor Relations.

Good morning.

Thank you, Leo.

Welcome to Honeywell's second quarter 2014 earnings conference call.

Here with me today are Chairman and CEO, Dave Cote, and Senior Vice President and CFO, Tom Szlosek.

This call and webcast, including our non-GAAP reconciliations, are available on our website, at honeywell.com/investor.

Note that elements of today's presentation do contain forward-looking statements that are based on our best view of the world and of our businesses, as we see them today.

Those elements can change and we would ask that you interpret them in that light.

We do identify the principal risks and uncertainties that affect our performance in our form 10-K and other SEC filings.

This morning we will review our financial results for the second quarter, share with you our outlook for the second half and the rest of the year, and then leave time, of course, for your questions.

So with that, I'll turn the call over to Dave Cote.

Thanks, Elena.

As we're sure you've seen by now, Honeywell had another terrific quarter and a very good first half of 2014.

EPS of $1.38 increased 12% year over year, when normalizing for tax.

So another quarter of double-digit EPS growth, with earnings coming in above the high-end of our guidance range.

We saw strong execution across the portfolio, with margin expansion in each of our four businesses.

We're continuing to benefit from our enablers and key process initiatives that are delivering growth and productivity benefits.

And we're achieving this while continuing to invest for the future.

Planting the seeds that will drive our performance and achievements of our new five-year plan.

In the quarter, we were encouraged to see that our organic sales growth accelerated 3%, We saw continued improvement in our short cycle order rates, as the quarter progressed, with steady growth in ESS, a return to growth in advanced materials, especially in flooring products, and a continued healthy pace of recovery in transportation systems.

Our robust, long-cycle backlog, which stands at $15.7 billion, up 4% from the end of last year, continues to support a favorable outlook with record orders for UOP, and a continued uptick in new process solutions orders.

We've also seen a moderation of the sales declines in the [defense] space, which you saw earlier in the year.

Speaking of D&S, I'm encouraged to see that the headwinds are nearly behind us.

We're expecting growth in D&S in the third quarter.

In fact we had 9% international growth in this last quarter.

And early indications point to a modest increase next year.

We recently celebrated the centennial anniversary of innovation and leadership in the aerospace and the oil and gas industries, two examples of where we have terrific -- great positions, in good industries.

Honeywell Aerospace has been a pioneer in aviation for the last 100 years, offering products and services that can be found on virtually every aircraft worldwide.

We've led the way from the beginning with firsts, like the first autopilot, the first truly automatic flight management system, and the first trans-Atlantic biofuel flight.

And we have differentiated through disruptive technologies across our electrical and mechanical portfolios, as well as our push into global connectivity, as you've seen with recent partnership announcements with Inmarsat and AT&T.

And in oil and gas, where our UOP business created the first conversion technology for upgrading crude oil, jump starting the modern oil refining industry, we're a driving force for innovation, for the global petroleum and natural gas industries.

Today, our leadership continues with new process technologies designed to get more valuable products from every barrel of oil, convert coal and natural gas into plastics, and convert biofeedstocks, such as algae, into renewable fuels.

We not only saw double-digit sales growth this quarter in UOP, but record orders and backlogs of future continues to be promising.

Another innovation I'd like to point out, is our new Lyric thermostat, designed for how people really live today.

Using the location of your smart phone, the geofencing feature automatically turns the thermostat into energy saving mode, when a home is empty.

Senses when you're coming home, and heats or cools the house to your preferred temperature.

It's just another example for how the Honeywell user experience or HUE or huey, depending upon how you want to pronounce it, enables us to move quickly to develop exciting new products that are easy to use, easy to maintain, easy to install, and exceed customer needs.

ECC has seen continued good growth through the retail channel, and that's up 40% in the second quarter.

We think the portfolio is well positioned, aligned to favorable macro trends, and there is significant runway to grow.

We remain confident in our outlook for this year.

As a result of our first half performance, we are raising the low end of our guidance again by $0.05, giving us a new pro forma EPS guidance range of $5.45 to $5.55 or up 10% to 12% for the year.

The closing of the sale of Friction Materials was a significant step in positioning our existing portfolio for continued out-performance.

We also realigned the Transportation Systems business segment into Aerospace, to better take advantage of the engineering and technology similarities.

And the shared operating practices between these two business segments.

Under the realigned segment reporting structure, the parts of friction we're keeping will remain under Transportation Systems, reported within Aerospace.

We just concluded our strategic planning reviews with our business and in these all day sessions, each of our businesses presents their five-year strategic plan.

While we're not expecting much help from the macro environment, I can tell you that each business has a strong road map to the 2018 targets we laid out for you back in March.

The growth opportunities and new product pipeline are quite impressive.

We approached the finish line of our previous five-year targets, confident in the strong foundation in place for continued out-performance.

We have great positions in good industries.

We're investing both organically and inorganically to grow faster than the markets we serve, and will stay the course on seed planting and continuous improvement initiatives.

We're going to stay flexible and deliver from 2014 and beyond.

So with that I'll turn it over to Tom.

Thanks, Dave.

Good morning.

On slide 4, let me walk you through the financial results for the second quarter.

Sales of $10.3 billion were up approximately 6% on a reported basis.

That's 3% organically, and came in just above the high end of our guidance range.

As we highlighted previously, the low first quarter organic growth was a bit of an anomaly, with declines in the defense and space and scanning mobility, driving roughly two points of top line decline in the first quarter.

As we signaled, these headwinds have dissipated.

The contributions in 2Q from the businesses were broad based with each SBG sales growth at or above the guidance we had communicated.

Regionally, organic sales were up 2% in the US despite the drag from the defense and space, 5% in Europe, Middle East and Africa, and 10% in China.

In China, we saw good growth in our short-cycle businesses, namely ESS and Transportation Systems, in addition to continued long-cycle growth, particularly in UOP and process solutions.

Once again, our quality of earnings was strong.

With most of the improvement coming from segment profit, which increased 10% in the quarter.

Segment margins expanded 60 basis points to 16.7%.

That's 70 basis points including a dilutive impact of M&A and 20 basis points higher than the top end of our guidance.

We had profit growth and margin expansion in all four businesses.

So really a balanced contribution across the portfolio.

It's also notable that the better than expected performance from Intermec reduced the segment margin dilution from M&A in the quarter.

Overall, we continue to see significant benefits from our productivity initiatives and proactive restructuring actions, while continue to invest for growth.

Items below segment profit were mostly as anticipated.

You'll recall that in the second quarter of 2013, we recognized an OPEB curtailment gain of $42 million, which was more than offset at the time by restructuring actions, so really no year over year net impact.

In the second quarter of 2014, we funded $14 million of restructuring projects, bringing the total for the year to approximately $100 million.

On a reported basis, the tax rate of 26.1% in the quarter represented a $0.06 headwind compared to the second quarter of 2013, and about a $0.01 tailwind relative to our guidance.

EPS was $1.38, $0.02 above the high end our guidance range, $0.01 was from operations and $0.01 came from the better tax rate I mentioned.

EPS increased 8% on a reported basis or 12% when you normalize for the income tax rate.

This was again driven by the 10% increase in segment profit, slightly more favorable below the line items, and a minor benefit from lower share count.

Finally, on free cash flow, approximately $1.1 billion in the quarter, 5% higher than 2013 and 101% conversion, despite a 17% increase in CapEx and higher cash taxes.

Year-to-date, free cash flow was up 28% through the first half.

Moving to slide 5, we are looking at Aerospace.

Now, this is prior to the realignment of Transportation Systems into Aerospace.

We'll adopt that change in the third quarter.

You'll also see us file an 8-K in the third quarter and reflect this change on our historical reporting.

But when it comes to all the forward-looking guidance that I'll touch on later, we do reflect the new reporting structure.

So Aerospace sales were flat in the quarter, which is in line with our guidance, with 1% commercial sales growth offset by a 1% decline in defense and space.

Despite the challenging top line, segment margin was up 30 basis points, driven by commercial excellence and productivity, net of inflation.

Partially offset by BGA OEM payments, a higher mix of OE content, and investments in growth programs.

The flat commercial OE sales reflect strong growth in large air transport driven by OE build rates, offset by lower regional jet sales, engine shipment timing and higher BGA OEM payments.

Now as a reminder, we have one significant content on a number of new OE platforms and have and will continue to incur upfront costs as a result.

These costs are fully contemplated in the five year planning we have shared with you and our accounting for these costs is very conservative compared to the industry.

The Aerospace business model is fully intact and these wins, coupled with the exciting new technology offerings in Aero, give us full confidence that the growth will accelerate over the five years in our plan.

Commercial aftermarket sales up 1% in the quarter with continued strong spares growth in both ATR and BGA.

The strength was offset by lower R&O revenues, a reflection of fewer maintenance events and timing, particularly in business aviation.

Aftermarket backlog levels in R&O, along with robust spares demand underpin an acceleration of aftermarket growth in 3Q.

Defense and space sales were down 1% but a nice improvement from the 8% decline in the 1st quarter.

US defense after market and government services decline significantly moderated from first quarter levels.

And growth in international markets, which Dave referenced earlier, helped to offset those declines.

Defense and space is tracking to a 3% decline for the full year.

On slide 6, we are looking at ACS results for the second quarter.

ACS sales were up 10% on a reported basis and 3% on an organic basis, in line with our expectations.

The difference in the two rates principally reflects the contributions of Intermec.

Looking at the businesses, ESS sales, so the products businesses, were up 4% organic with ECC and scanning and mobility showing particularly strong growth.

ECC continued to benefit from strong residential end markets and new product introductions, particularly in the retail channel.

Dave talked about Lyric and overall the thermostat category is performing very well for us.

As for scanning and mobility, following the ramp down of certain large programs in Q1, it returned a strong organic growth in the second quarter.

New wins, which ramp over the course of the year, are driving sustained growth.

Intermec also continues to perform very well, supplementing the growth we're seeing out of the core HSM business.

Our fire and safety -- excuse me, our fire, safety, and gas businesses have shown continued strength as well.

On a regional basis, penetration of high growth regions remains a big driver of growth in ESS, as we saw strong double-digit growth in both China and the Middle East.

Moving to building solutions and distribution.

Sales were up 2% with strength in the Americas distribution business offsetting pockets of weakness in building solutions, specifically the US energy retrofit business.

We are encouraged, however, as building solutions project and services backlog continues to grow.

I'd like it take a minute to comment on what we're seeing in the commercial building sector.

We're seeing modest improvement from the first quarter to the second quarter in the ESS products business as a service sector, primarily ECC and fire safety.

We are anticipating further improvement in the second half.

In the Americas energy business, as I said, orders have been delayed due to financing and municipal contract hold-ups.

While the projects can be lumpy we are seeing bid activity heating up, especially in the Middle East and China.

And energy efficient projects globally.

This, along with the easing of year over year comps, gives us confidence that our commercial building related sales will modestly accelerate in the second half.

Moving to ACS margins.

Expansion of 50 basis points to 14.8% in the quarter, up 80 basis points, excluding M&A.

ACS continues to benefit from productivity, net of inflation, commercial excellence, as well as higher volumes, while also continuing to invest for future growth.

Moving to slide 7. Performance Materials and Technologies.

PMT sales were $2.6 billion, up 6% organic and were above the high end of our guidance driven primarily by stronger than expected results in UOP.

UOP sales increased 17% in the quarter, driven by increased catalysts and gas processing sales, reflecting continued strong refining, petrochemical, and gas markets.

UOP had a record quarter for both orders and backlog, which currently stands at $2.6 billion.

We saw a continuation of orders trans and gas processing particularly at Thomas Russell.

So continued benefit in UOP from oil and gas investments occurring globally.

In process solutions, sales were flat on an organic basis primarily driven by a couple of large projects completed in the prior period, offsetting growth across the remainder of the portfolio in high margin areas like services and advanced software solutions.

Process solutions orders growth accelerated in the quarter, up approximately 7% organic, and as we will preview, modest sales acceleration is expected in the second half of the year.

Advanced materials sales increased 5% in the quarter.

We saw volume increases across the businesses with particular strength in flooring products, driven by new global warming molecule offerings.

These volume increases were partially offset by unfavorable pricing, particularly in resins and chemicals, as we've been signaling.

We expect these pricing headwinds to moderate in the second half of the year.

Segment margins for PMT were up 30 basis points to 18%, consistent with our expectation, driven by productivity, net of inflation, and higher volume partially offset by price raw headwinds in resins and chemicals, unfavorable UOP catalyst shipment mix, and continued investment for growth.

On slide 8, you can see Transportation Systems, which again to remind you includes Friction Materials for the second quarter.

TS had another strong quarter with sales up 8%.

That's 4% without foreign exchange, and segment margin expansion of 310 basis points.

The sales increase was primarily driven by turbo volume growth across our three largest regions, Europe, North America, and China.

In each of these regions our volume growth out paced auto production.

The growth we're seeing in Europe was strong in both the light and commercial vehicle segments.

We benefited from an uptick in European commercial vehicle demand, primarily driven by the Euro 6 regulation shift in the region.

Outside of Europe, both North America and China saw strong volume increases in light vehicles, both diesel and gas, which more than offset lower commercial vehicle volume sales in these regions.

In North America specifically, commercial off highway sales remained soft, consistent with trends in mining and agriculture segments.

Overall, we continue to benefit from improving global industrial macros on vehicle production, regulation, turbo penetration, and our strong win rates.

As we begin to lap the strong second half performance from 2013, however, we do expect some moderation in these growth rates beginning in 4Q 2014.

The segment margin improvement to 16.4% reflects the strong productivity and volume leverage in turbo and the benefits from restructuring and other operational improvements.

With the closing of the Friction Materials divestiture behind us, let's now turn to slide 9 and walk through our guidance for the third quarter under our new reporting structure.

We are expecting sales of $9.9 billion to $10.1 billion, which would be up 3% to 5% reported, or 3% to 4% on an organic basis.

Segment margins are expected to be up approximately 50 basis points and earnings per share is expected to be in the range of $1.37 to $1.42, up 10% to 15% from the prior year.

For Aerospace, as I indicated earlier, we are providing guidance under the new reporting structure, with Transportation Systems included.

Sales growth on a reported basis expected to be flat to down 2% in the quarter, reflecting the year over year absence of Friction Materials sales in the quarter.

On an organic basis, or in other words without the friction business, sales are expected to be up approximately 2% to 3%, with growth across the portfolio, commercial, defense and space, and Transportation Systems.

In commercial, OE sales are expected to be approximately flat year over year, with continued growth in ATR, offsetting declines in BGA similar to the second quarter.

However, we are expecting acceleration in aftermarket growth in the quarter, up low-single digit, driven by continued by spare strength and higher airline maintenance events.

We're also expecting to see a return to growth in defense and space as Dave indicated, up low-to-mid single digit, where international programs continue to drive growth.

In Transportation Systems we're expecting mid single-digit organic sales growth in the quarter.

And as for margins we expect an increase of approximately 150 basis points with significant contributions from both the Aerospace and TS businesses.

For ACS, sales are expected to be up between 8% and 10%, or 3% to 4% on an organic basis.

And as a reminder, we closed Intermec in the third quarter of 2013, so this will be the last quarter of M&A impact from that transaction.

Organically we expect continued mid single digit growth in ESS and improvement in BSD.

Our short-cycle orders have been trending up at ESS and the backlog is growing in building solutions.

Both trends bode well for our third quarter outlook.

ACS margins are expected to be up approximately 20 basis points or practically -- or approximately 40 basis points, excluding the dilutive impact from M&A.

ACS continues to ramp their investments for growth in new products, as well as adding feet on the street as we continue to further penetrate high growth regions.

In PMT, sales are expected to increase between 4% and 6% in the third quarter.

In UOP, we foresee another quarter of increased catalyst growth.

However, similar to the first half, product mix in Q3 will result in a headwind to UOP margins.

As a reminder, UOP sales can be lumpy quarter to quarter based on the timing of products.

And as such we are forecasting a sales decline of approximately 10% in the fourth quarter for UOP, against a much more challenging comp.

However, our outlook for the year rear remains intact for mid-single digit growth in UOP and with a record orders and backlog experienced in Q2, we expect strong growth to continue over our five-year plan.

In HPS, after several quarters in a row of strong orders growth, we're expecting to see sales accelerate in the back half of the year, carrying into 2015 with continued strong margin expansion.

The increased orders growth will really start to show in the fourth quarter, as we're expecting high single-digit sales growth in HPS.

In advanced materials, we anticipate another quarter of broad sales growth across the portfolio including improved production levels in resins and chemicals.

And increased sales of low global warming products and flooring products.

Overall, PMT segment margins are expected to be up slightly versus the prior year, reflecting similar trends that we explained for Q2, with the exception that pricing pressures in advanced materials are expected to moderate.

Let me move to slide 10, where I'd like to take a moment to refresh our 2014 segment outlook.

This guidance reflects the realignment of Transportation Systems in Aerospace, as well as the transition of process solutions into PMT that occurred in Q2.

Let me explain the set-up here.

The left half represents the guidance we provided in April.

So with process solutions already in PMT, but prior to the sale of Friction Materials and prior to the movement of TS.

The right side reflects our current outlook, including the Friction Materials divestiture, and the realignment of Transportation Systems into Aero.

So at the bottom of the page you can see our new sales guidance, which reflects the absence of approximately $300 million Friction Materials sales in the second half.

And our increased segment margin guidance for the year driven by our strong first half performance and the margin accretion we will experience from the absence of Friction Materials sales in the second half.

There are some comparable dynamics to be aware of as you think about the full year.

First, in Aerospace, with the inclusion of Transportation Systems, we're expecting 4Q sales to be down low-single digit on a reported basis, but up 1% to 2% on an organic basis, driven primarily by the timing of OE shipments in our air transport business.

However, you can see the significant margin expanse we're expecting this year, with contributions from both Aerospace and Transportation System businesses.

Also, as I reference, we expect a decline in 4Q sales in UOP, all timing and comp related.

And I want to reiterate that we anticipate another good growth -- a year of good growth in 2015 from UOP, given the significant multi-year backlog we're building there.

There are minor puts and takes, but no real changes to ACS or PMT from their prior outlooks, with continued margin expansion in both businesses.

Turning to the next slide, slide 11, you can see the basis for our 3Q, 4Q, and raised full year guidance.

Full year sales are now expected to be $40.2 billion to $40.4 billion dollars reflecting first half performance and a modest organic sales acceleration in the second half.

Estimated full year sales are lower at the midpoint from our previous guidance, reflecting the absence of approximately $300 million of Friction Material sales in the second half.

So on an organic basis, we continue to expect about 3% growth for the full year.

Although acceleration is expected in the second half, most notably in defense and space, process solutions and advanced materials, we will see tougher comps in the fourth quarter, specifically in UOP and Aerospace, as I mentioned.

As you'll recall, we saw acceleration in organic growth at the end of 2013 with growth of 5% in the fourth quarter of last year.

On segment margin, we've increased our full year guidance and now expect 16.8% to 17%, up about 60 basis points at the mid-point versus last year.

On EPS, we're raising the bottom end of our pro forma guidance by $0.05, making the new range $5.45 to $5.55, or an increase of 10% to 12 % versus the prior year.

We are planning for a 26.5% tax rate in 3Q, with 4Q just slightly higher to get to our full year planning assumption of 26.5%.

Overall, we feel like we are executing well and delivering on the high end of our 2014 commitment.

I am now on slide 12.

And before wrapping up I want to give you an update on our new five-year plan, out to 2018.

On a total Honeywell basis, the targets are identical to those we shared at the March investor day.

However, the individual components now reflect our new business segment reporting structure.

So even with the Friction Material divestiture, the overall Honeywell targets are identical to those originally communicated.

We're continuing the target of 4% to 6% organic sales CAGR and segment margin in the range of 18.5% to 20% by 2018, which is 220 to 370 basis points improvement from 2013.

Strong earnings growth, which you come to expect from Honeywell.

On the left side of the page you can see the previous outlook by business based on our old reporting structure.

Moving to the right side of the page, our current targets now reflect the combined Aerospace and Transportation Systems businesses less Friction Materials, as well as HPS transition to PMT.

Some minor puts and takes, but overall very consistent with what you heard in March and significant contributions across the portfolio.

And as Dave continues to emphasize, the growth and margin story doesn't end in 2018.

Each of our businesses still has significant runway based on the continued evolution of our internal processes, global growth and execution, and the value we add for the customer through innovation and the Honeywell user experience.

So even more to come.

Let me finish on slide 13.

The second quarter results put us another step closer to delivering on the high expectations for 2014 we laid out in December.

The pace of accelerations in organic growth over the course of the quarter gives us confidence in our second half outlook, where we expect a modest uptick in organic growth and a continuation of strong productivity.

We're going to keep investing for our future focused on our new five-year plan.

Innovation and new product introductions, which are the lifeblood of our growth, remain a key priority.

As well as the investments we're making to further penetrate high growth regions.

We feel confident that the balanced portfolio mix, alignment to favorable macro trends, and focused cost disciplines, will enable us to continue to outperform.

And we're focused on executing sustainable restructuring actions, productivity actions, including delivering on the strong restructuring project pipeline, we've already funded.

So with that, Elena, let's go to Q&A.

Thanks, Tom.

Leo, we'll now take our first question.

The floor is now open for questions.

(Operator Instructions)

Our first question is coming from Scott Davis of Barclays.

Hi.

Good morning, guys.

Hi.

I wanted to -- you didn't really talk much about M&A in the release, right?

I'd say not at all.

But, it's Roger Fradin now has had a couple of months in the role.

I mean, can you give s a sense of, how he's progressing as far as pipeline and changing M&A process and your confidence in being able to do deals in the next 12 months?

Yes, Scott.

I'm happy to answer that.

As you know, historically our approach to M&A has been really a bottoms up process from the businesses.

So each business has resources and has an action plan to maintain a robust portfolio of M&A targets.

And that's what you've seen generate the deals we have done over the years.

As you alluded to when we did the appointment of Roger into the Vice Chairman's role, one of the things Dave asked him to do was to focus with our M&A team on the pipeline and that portfolio.

So we've kind of gotten a tops down focus from Roger, in addition to the process that we have had in our history.

So what you've got is you've got two ways of looking at it.

And when you look across the portfolio, we are seeing quite a bit of interest as a result of this process.

As you know, we're quite active in looking at potential deals in Aerospace, ACS, and in PMT.

And I think that activity will continue.

For what it's worth, Scott, Tom also said he enjoys having Roger report to him on that.

Well, good luck.

We'll be watching closely on that.

Guys, can you give us a better sense -- I mean, I've struggled to understand this business for a lot of years and I'm talking about UOP and kind of the quarter-by-quarter variability.

I mean, it's a fantastic business, but I have no idea how you forecast it or how you really have any confidence one quarter to the next in that regard.

But, how does a business like that have such a strong quarter without there being an inventory build or some sort of -- something going on at the customer level that may come back and bite you in the tail in a quarter or two?

I just don't understand it, I guess.

I'll answer first and then turn it over to Tom.

I would say on an annual basis it's pretty forecastable.

They don't have a lot of inventory to have to fool with in the first place because a lot of this is a technology sale.

I mean, there is some inventory, but not a huge amount.

It's the between quarters that can be more variable.

But given that variability is generally forecastable, it's just that you can end up with lumpiness when it comes to one quarter versus another.

But we generally have a pretty good handle on what's going out the door.

I think Dave hit it on the head, Scott.

It is quite lumpy.

But, because of the long-cycle nature of it, and we referenced the backlog earlier, we're at a record backlog $2.6 billion, up double digits from last year.

We have good insight into what's going to happen quarter-over-quarter.

And that backlog dissipates and will end up in our P&L over a fairly short timeframe, over a year and a half to two years.

We feel like we have a good track on forecasting that.

Okay.

And last, just quickly, we used to think about in TS as turbo as being one of those businesses that was 600 basis points over auto SAR, maybe a little bit better in some quarters, maybe a little bit worse.

Has that changed at all?

Is there a different thought process in how that grows versus auto SAR globally?

We do end up with a regional mix difference that can impact us, because we've got a strong position in Euro diesel.

And that was one of the things that really helped us, with that industry bottoming out this year, so all the wins finally started to show up, as opposed to mitigating the declines we were seeing in Euro autos.

But overall, yes, it's going to continue to grow well for a long time.

Yes.

I guess what I would say is I'd re-emphasize the growth profile that we've got going.

It's in all of our big regions, I mean, in North America both on diesel and gas side, strong double-digit growth.

China strong double-digit growth on both diesel and gas as well.

And Europe is doing pretty well, as well.

And the commercial vehicle side in Europe in particular, very strong.

So those regulation and the other things --

But that 600 basis points above SAR, I mean, is that changed?

I mean, I think -- or are you punting on the answer?

Scott, I would say that European light vehicle production in the quarter was flat.

And so for turbo we had organic growth of 5%.

So 500 basis points.

It's within that range.

Okay.

Good.

That's what I really wanted to know.

Thanks, guys.

Good quarter.

Thanks.

Good luck.

Thanks, Scott.

Our next question comes from Steven Winoker of Sanford Bernstein.

Thanks and good morning, everybody.

Dave, just an initial question.

On that turbo move in transport to Aero, how much is cost a part of that?

Or should I say how much cost reduction are you expecting from de-layering?

Is there any in there in addition to the technology justification?

No, not really.

In fact, our turbo business is pretty lean already.

I'm hoping, when we reference operating practices in the release, I'm hoping for more leanness to transfer into the Aero business, looking at turbo as a model.

Okay.

So the rationale here is sort of subscales in existing -- a separate reporting segment now.

Obviously, the technology's always overlapped.

But you could have gotten that otherwise and maybe some practice opportunities here.

Is that how I should think about it?

Might modify that a bit.

I agree on size.

Subscale, I don't know that I would call it that, because within that industry their scale is quite good.

On the technology side, it's one thing to tell two businesses, hey, would you guys cooperate?

But I could say over 12 years there's been an evolution there.

It used to be the Aero business wanted to charge the turbo business $200,000 per person for cooperation.

You might remember those days?

Things have changed a lot and we've progressed to the point where we co-locate engineers, as I mentioned in the past.

That being said, you still get a different dynamic when you put the businesses together.

And we're putting them together in a way that allows us to get much further advantage out of that technology benefit that we have with Aero technology.

Because turbo is just a derivation of a jet engine.

And we're the only guys who have that.

So we want to take further advantage of it.

But, I am also hoping for a lot more of those lean practices to transition into Aero.

Because the Aerospace industry is, let's say, rife with opportunity when it comes to running more leanly than it does today.

And while I'm pretty proud of what we've been able to do, where we've been able to get to, at the end of the day I think there's still one hell of an opportunity there for us.

And this is a good way to have best practices in house that they can be looking at.

Okay.

And speaking of moving organizationally to drive better financial results, HPS within PMT now, just maybe talk about the projects that are complete.

It's down 1% flat organic, but again this sort of North American build-out that's just at the very early stages, what are you seeing there?

Any hope that we should anticipate a ramp-up soon?

Steve, like we said, first of all, there's a lot of excitement around the combination of those two businesses.

And we do think that market-wise it's going to enable us to better serve the common customer base that's there.

I think you're referring specifically to HPS.

I mean, the second quarter orders were very strong.

Up 7% on an organic basis.

That's another quarter of pretty good growth for them on the order side.

As I said, that has been factored into our full-year guidance.

UOP as well.

As I said, both orders and backlog are strong.

We talked about the lumpiness.

But the sustained trajectory for both of those businesses is really good.

And unlike the TS1, as Dave said, I do hope to get a little bit of productivity out of that combination as well.

Okay.

And just lastly, you mentioned you just wrapped up the strap process.

Again, just remind me, what macro assumptions is you give the business, the SBUs to use for the five-year plan in terms of top line base growth?

I think we used -- I mean, the global insights GDP forecast was, looking at 3%.

Yes, about 3% to 3.5% is kind of the assumption globally.

Nominal?

Not a lot different that what we said back in March, just because I don't think that much has changed since that time.

I think the FX, we assume the Euro was at $1.30.

Great.

Thank you.

I'll hand it off.

See you, Steve.

Our next question comes from Steve Tusa of JPMorgan.

Hi, good morning.

Hi, how bad is UOP going to be in the fourth quarter?

(laughing) What an interesting way to put it?

I don't know that I would say it's bad.

I would say, it's all contemplated within our fourth quarter guidance.

You can see it turns up well for the year.

I don't know, Tom, if there is anything else you want to contribute there?

No.

Full year UOP will be 5%, as I said.

Down 10% -- sorry, or 8% in the fourth quarter.

But, first quarter was 9%, this past quarter was 17%.

We'll see mid-single digits in third quarter and probably 8% to 10% down in the fourth quarter.

But full year, right on track and again with that order and backlog should be very strong for --

Yes.

I don't think it's -- I don't think there is an issue with the trend in the business.

I am trying to kind of reconcile the 3% organic growth you did this quarter.

And the only thing that seems to be getting worse or just on a lumpiness or quarterly basis, whatever is in the math, would be UOP.

Everything actually seems to be looking better, like accelerating.

And so I am just a kind of like the 3% organic, even with UOP, unless it's dramatic, which 8% is a pretty big number.

So I'm just trying to reconcile that 3% you did this quarter versus why, with things getting better, why that should be 3% in the fourth quarter.

I --

Sorry.

I think we also mention that we do have some other tougher comps, in particular, in air transport and OE and also in Transportation Systems.

Relative to both of them up mid-teens in the fourth quarter of 2013.

Right.

But I mean you didn't really grow in commercial Aero this quarter.

So you're going to be down in commercial Aero in the fourth quarter?

Our AT ROE growth this quarter was single digits.

Okay.

So it was the big jet stuff kind of offset that?

Right.

Okay.

And then --

Your thesis, though, Steve, it's not the way you're talking about it, seems reasonable to me.

Right.

Okay.

And then just I guess I'm just going to ask this every quarter, and this quarter was particularly interesting because DuPont pre-announced negatively and I got a flood of emails about R22 pricing.

I don't really get chemicals, the questions around chemicals pricing for a lot of the other companies that I follow.

With the re-segmentation you just did you kind of went to a little less disclosure, which I don't particularly view as a good thing.

Is this the final kind of iteration of, outside acquisitions, of what the portfolio looks like?

Or could we maybe break out the more process kind of oil and gas-related businesses?

And maybe again kind of -- at some point evaluate this chemical business as a part of the Honeywell portfolio?

I would say in terms of organization, I kind of like it just the way it is now.

Okay.

So no change?

No.

Okay.

Thanks.

If it was, you couldn't expect me to say anything anyway, Steve.

That's my job to ask the question.

Thanks.

All right.

Our next question comes from Jeff Sprague of Vertical Research.

Thank you.

Good morning, folks.

Hi, Jeff.

How's it going, Dave?

Could we get a little more color on commercial building for US specifically?

The color Tom gave I think was global and helpful, but a little lay of the land on the US specifically, if you have it?

Yes.

I would say, Jeff, the, the growth in the products businesses there that are serving commercial buildings are reasonable.

I mean, mid-single digits in the second quarter.

I expected that to continue for the remainder of the year, if not accelerate a little bit more modestly.

In terms of the pure building solutions business, the sales -- or the business in the US was tempered a bit by the energy business.

We had a couple of really large projects completed in 2013 that tempered the sales.

In terms of the orders growth there, it's flat.

It's flat globally.

But on the Americas side, it's been picking up to mid-to-high single digits, is what I'd say.

Mid-to-high single-digit US energy retro fit but global is flat on orders?

Yes.

Okay.

Thank you.

And I was just wondering, Dave, if you could address Europe a little bit more specifically?

I think the plus 5 was an EMEA, comment.

How is core Europe actually doing?

Is there any slowdown in Europe in the quarter in June that you noticed?

Overall, it's kind of interesting as our Europe orders have actually done okay, as you've been hearing us say for the last two or three quarters.

So I'm a little surprised, actually, given that the overall economy doesn't perform all that well.

And we don't have a lot of expectations for the economy to perform all that well over the, say, next two or three years.

That being said, our orders are okay there.

And just one final one from me and I'll move on.

Perhaps too granular for this call, but are you seeing any kind of toppiness, pressure in the commercial helicopter market?

I can't say.

No, I don't think so.

We actually think that's going to be a pretty good market for a while.

Just some cautionary comments out of Eurocopter this week and Farm Bureau and some toppiness at Bell also.

Maybe it's just in -- just noise in the quarter.

I can't speak to that.

I'm not sure what their expectation was either.

But I'd say overall, I would say we still think that's a growth market.

Great, thank you, guys.

You're welcome.

Our next question comes from Howard Rubel of Jefferies.

Good morning.

Numbers are nice.

Thank you.

A couple things.

You never stop pushing excellence.

And while friction material is the last obvious divestiture, how do you think about keeping the guys at the back of the line equal with the people outperforming at the front?

Well, that's something we pay a lot of attention to all the time.

And in several different ways.

One of the things that we'll be -- one of the ways we'll be doing that more in the future is through this HOS gold effort that you've heard us talk about.

And especially as we go through the strategic planning or what we call strap exercise.

We spent a lot of time looking at that.

And I can't say that we look at it in threatened sale if they don't kind of come up to par.

But at the end of the day I'd say this.

I'm really encouraged by the upside I see across the portfolio and the implementation of HOS goals and the ability to raise sales growth and margin rates everywhere.

And then kind of staying with that theme, you're spending a lot of money on new products and you highlighted a couple of them in ACS.

Can you sort of talk about are you getting the productivity you want?

And are there -- how do you think about maybe how much of this is contributing to organic growth as opposed to just the normal economy?

Are you talking about new products or productivity, Howard?

I guess I mix them both.

One is the productivity associated with new product development and then second is how is that contributing to the organic growth, Tom?

First off, look at it in pure financial metric.

We're not decelerating at all on investments in new products.

For example, if you look at R&D investments, it's not -- that's not per se generating productivity.

But when you look at productivity across direct materials and our people cost, I would say that is -- that has been a strong as it's ever been in the last couple of years, is the way I look at it.

And then, last, on Intermec it looks like you are getting the top line you expected.

How would you evaluate where you are in terms of the integration process and when do we really see its profitability normalize with the rest of the business units?

I would say, Howard, the way we look at that one, a year ago everybody -- when we closed the deal, it was a business that was not very profitable, if profitable at all.

And you fast forward to now and you look at what we've done, just to look at the multiple that we paid in comparison to today, you would say we are 17, 18 times multiple.

And you factor in the synergies that we've gotten and are in place, we are down to a sub 5 type multiple.

That gives you an idea that we feel like we've been successful.

So when you look at the plan itself and you look at both revenues and the income and the cash, all of those metrics we're performing a lot better than the plan.

So, John and his team at scanning mobility as well as the Intermec have done a nice job at integrating those two businesses.

Thank you very much.

Our next question comes from John Inch of Deutsche Bank.

Thank you.

Good morning, everyone.

So how did your businesses, I realize it's not a huge exposure, but how did your businesses fare in Latin America?

And the crawl read, might be, does market weakness in Latin America, Dave Cote, maybe provide you an opportunity perhaps with respect to capital deployment or step up some investment spending there or something like that?

We continue to do very well in everything south of the Rio Grande.

When you look at the big ones, Mexico and Brazil, we continue to do well there.

Mexico, we've got about 14,000 employees.

In Brazil, we've got about 1,000.

Our sales have been quite good there.

In terms of investing, I still think that there are places where you think about it before you do it.

It's not a no-brainer.

But overall those have been very good markets for us.

Were your Brazilian businesses up in the quarter?

Yes.

Yes.

Mid-single-digits.

Defense and space.

Were there any pockets of defense and space or expectations of defense and space pockets like within the framework of that business that you expect to actually get better over the course of the year?

I'm curious kind of how, if anything, has changed with respect to how you're seeing this business, how you are going to manage it.

I'm assuming it kind of gets managed down over time, but maybe not?

Yes.

John, the way I think of the defense and space business is that it has two pieces, a products business where we're dealing with the US government and/or the prime contractors.

And then there's the service business that's largely unrelated to the Aerospace industry.

And that's where we've seen the most pressure.

Thankfully, it's a lower margin business.

But that's where the top lines for defense and space are the most pronounced for us.

We're now approaching periods where we're going to start lapping comps.

So that will -- that pressure will subside.

The other thing that we've got going on there is the international side.

You read the paper this morning.

I mean, unfortunately, those things happen.

But that tends to bode well for military budgets outside of the US, and so we're seeing an uptick, as Dave referenced, in sales on the international side of defense and space.

So you've got some balancing dynamics going there.

I think the net to the positive as we head into the second half of the year.

I think the other thing to recognize, John, as we've said before, defense is really more of a sales channel for us.

It's not like we have -- while the jet engine might be unique to a certain defense application, at the end of the day it's still coming out of a jet engine factory that's also producing commercial --

Right.

And all incremental.

Maybe one more.

Global markets, Dave Cote, kind of do not begin to show more signs of life -- I realize you're outperforming today, but let's call it over the course of the coming year does that cause you to perhaps modify or even accelerate aspects of your operating framework to hit or hopefully exceed your five-year targets?

Well, as you know, I've been one of the guys who has generally been more negative on the global outlook for the last four years.

So far that has been a pretty good call.

So I'd say the way we've forecasted this year and the way we've looked at our five-year plan is pretty consistent with that.

I never counted on much and so far that has been a good call.

But I feel pretty good about where we are and what we're saying.

Thank you very much.

You're welcome.

Our next question comes from Christopher Glynn of Oppenheimer.

Thanks.

Good morning.

Chris.

Hi there.

Your brother-in-law, Tom says hi.

Thanks for passing that along.

I got a text from him last night.

I guess this is going to be an easy question.

So, we'll see.

So I want to follow up on the M&A and part of Roger's job now, I think, is the opportunity to look at sourcing larger deals.

And we see the Intermec integration was pretty rapid fire with the benefits.

So I'm wondering, are you just starting to develop the pipeline for larger deals, or is that something that's already kind of established?

I don't think there has been a concerted effort to find larger deals with Roger joining that area.

I do think that he has the tendency and the license and the idea of looking across Honeywell and trying to identify opportunities that might touch on more than one business.

Or that might be in an adjacent business adjacent to three business segments that we have.

That might lead you to think that there's larger deals in the making.

But I would say that's not the primary objective.

I would say the primary objective is to augment those existing portfolios and find good growth ideas that are in the industries that we like.

I'd add that Chris, while we did an okay job on origination, as Roger started to get into this around the Company looking at it within the businesses, across the businesses, and adjacencies that might make sense.

He's really invigorating the overall kind of origination process.

I think it's going to give us a lot more ideas to work with than what we've had in the past.

You've heard us talk about we want to -- many times that we have and want even more of a robust pipeline, because the more ideas you have, the more stuff you can go after, the more opportunities it gives you.

It also allows you to be more selective.

You can end up being, I'd say, in a much better position to negotiate if you have nine other good deals that you can do, so that you don't do something silly when it comes to pricing.

Right.

Well, we haven't seen that be a problem.

So I think our bias then would be more to higher frequency of deals in your accelerated capital allocation rather than seeing something larger?

I guess it depends how you define larger.

I would say, you've heard me say many times we never say never on any of this because it's going to depend upon the construct of the deal.

But whatever we, do I can promise you, will be consistent with the financial and operating discipline model that we've talked about in the past.

And we'll have strong cost synergies that come out of it consistent with Tom's point on Intermec.

That is certainly one of the things that I think has helped define our track record.

Great.

Thanks, guys.

Leo, we have time for just one more question.

Very good.

We'll take a question from Andrew Obin of Bank of America.

Yes.

Good morning.

Just a little bit more color on your OP and HPS.

Could you comment more on pet chem demand by region because we're hearing mixed commentary this earnings season?

UOP by region?

Yes.

And HBR.

It seems that some pieces of oil and gas and pet chem industry are moving in different directions.

[Many of us] are just trying to get what you guys are seeing.

It's pretty broad based.

I think you look across all of the regions -- I mean, oil and gas haven't been particularly strong both in the US, the Middle East, China, in particular.

Anything, Tom, that you could add?

Yes, I'd say the Middle East has been outstanding for both UOP and for HPS and China.

So I think those are really good.

But it's not like the US is --

No.

Canada.

And just a question on Aerospace.

You sort of noted that RMU's growth is moderating and I see you guys were positive.

Can you talk about what's happening there and any sort of broader trends that are taking place?

I think on RMUs, the sales levels are very strong.

It's just that we had such an uptick in the early and middle part of 2013 and really into 2014 that we're starting to lap through that are really strong.

But we're sustaining the level of new product development there and the offerings that are going on to those platforms, particularly on BGA side and particularly as it relates to software.

Thanks, a lot.

Thank you for your participation today.

I do want to turn the call over to Dave Cote for any final comments.

We're quite pleased with our second quarter results and our outlook for the year.

I think it's a good reflection of our expectations for ourselves over the next five years.

We have a great portfolio to grow with.

Our process initiatives continue to progress, and our culture provides sustainability, as we evolve and continue seed planting.

We're building on a great base.

And with the addition of our drive for HOS gold, software, including CMMI level five, as you read, we see a lot of good things to come for Honeywell.

Thanks.

Thank you.

This does conclude today's teleconference.

Please disconnect your lines at this time and have a wonderful day.