江森自控 (JCI) 2007 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to Tyco's fourth quarter results conference call.

For the conference today, all the participant lines are in a listen-only mode.

However, there will be an opportunity for your questions and instructions will be given at that time.

(OPERATOR INSTRUCTIONS) As a reminder, today's call is being recorded.

I would now like to turn the conference over to the Senior Vice President, Strategy and Investor Relations, Mr.

Ed Arditte.

Please go ahead, sir.

Thank you.

Good morning and thanks for joining our conference call to discuss Tyco's fourth quarter results for fiscal year 2007 and the press release that we issued earlier this morning.

With me on today's call are Tyco's Chairman and Chief Executive Officer, Ed Breen; and our Chief Financial Officer, Chris Coughlin.

Let me remind you that during the course of the call, we will be providing certain forward-looking information.

We ask you to look at today's press release and read through the forward-looking cautionary informational statements that we've included there and in the most recently filed 10-Q.

In addition, we will use certain non-GAAP measures in our discussions and we ask you to read through the sections of our press release that address the use of these items.

The press release issued this morning and all related tables can be found on the Investor Relations' portion of our website at Tyco.com.

All of the financial results presented in our press release today, including comparisons to last year, reflect health care and electronics as discontinued operations.

In addition, as noted in the press release, we have classified our infrastructure services business as a discontinued operation.

Now let me quickly recap our earnings this quarter.

On a GAAP basis, our earnings per share were $0.42 in the quarter, which included $0.15 of charges for special items.

Excluding these charges, our earnings per share from continuing operations were $0.57 in the quarter.

Our GAAP tax rate in the quarter was approximately 40% and was negatively impacted by about five percentage points for these special items.

Excluding these items, our tax rate in the quarter was approximately 35% and was higher than the guidance that we gave you last quarter.

Had our tax rate been at the midpoint of the 31% to 32% range that we gave you last quarter, earnings per share from continuing operations would have been $0.60.

With that now let me turn the call over to Ed Breen.

Thanks, Ed, and good morning, everyone.

This was a good fourth quarter and a nice finish to the year overall.

Our organic revenue growth was 5.4% and our total operating margin before special items was 9.8%.

Both organic revenue growth and our operating margin were above the guidance we gave last quarter.

The fourth quarter results saw a solid cash flow quarter.

Our free cash flow for the quarter was $690 million and included $67 million of payments for separation of restructuring.

Excluding these payments, free cash flow in the quarter would have been $757 million.

For the full year, our free cash flow was $801 million and included $322 million of net payments for separation, restructuring, and other items.

On a normalized operating basis, our free cash flow would have been approximately $1.1 billion for the year.

For the full year of 2007, we had good organic revenue growth of 5.4% and our operating performance improved in each of our businesses, except the electrical and metal products, which was down more than $150 million in operating income mostly because lower metal spreads.

When we look at the individual businesses, Flow Control had another strong quarter and year.

Our end markets, particularly energy and water, continued to grow at a very fast pace.

And given our leading position within these end markets, Flow Controls' revenue grew more than $600 million in the year to almost $3.8 billion and is now our second largest business after ADT.

In addition, Flow Control improved its operating margin by 150 basis points for the full year.

Our fire protection services business also had another good year of improvement, led by our North American SimplexGrinnell business.

We finished '07 with organic revenue growth of 5% and 90 basis points of margin improvement.

As we continue to execute better and increase our electronic and service revenue, which is more profitable, we will drive further improvements in this business.

For ADT Worldwide, our growth rate picked up by more than one percentage point over the past year to 3.5% and our operating margin before special items was about flat, due to certain nonrecurring items that Chris will cover in a few minutes.

Our ADT margins improved in North America, Asia Pacific and Latin America, but declined in our European region, as we had anticipated, due to the headwinds from the continued loss of highly profitable recurring revenue.

While these headwinds in Europe will continue in 2008, we expect our account growth to be positive by the end of the year and we expect this to result in positive recurring revenue growth in 2009.

Finally, in our safety products business, for the year we had strong performance in fire suppression and electronic security, that was offset by a revenue decline in our life safety products.

We are well positioned in each of our product lines and we anticipate improved revenue growth in 2008.

Our operating margin in safety products remains strong.

I would also like to take a few minutes to discuss the progress that we have made on a number of initiatives that we believe will drive our performance going forward.

First, we continue to make progress in refining our portfolio.

In September we announced the sale of ETEO, which was a Brazilian subsidiary of our infrastructure services business for approximately $300 million and we expect this to close sometime in the second quarter of 2008.

We also announced the acquisition of Trident Tek this week that will add more IP-based technology solutions to our line of video security products and will strengthen our product offering.

As we have discussed before, we will consider making bolt-on acquisitions in areas where we can strengthen the market positions in our existing portfolio.

Second, our restructuring program that we previously announced in the fourth quarter of last year is now well underway and we are aggressively implementing these projects.

In 2008, we expect to incur another $150 million or so of charges to complete this program.

We are just beginning to capture some of the savings and anticipate approximately $100 million of savings in '08, of which 60 million to $70 million will be from the segments and the remainder will be from corporate.

By 2009, we expect to capture the full benefit from this program with savings in the range of 150 million to $200 million annually.

Third, as you can see in our fourth quarter results, we have made a lot of progress in reducing our corporate expenses and we are on track to reach our $500 million run rate target by mid-2008.

Lastly, we also began the process of returning capital to our shareholders.

In September, we announced the approval of a $1 billion share repurchase program and to date, we have repurchased approximately three million shares.

Given our cash balances and our cash flow generation, we expect to complete the share repurchase program within the fiscal year, which would result in a 4 %to 5% reduction in our total shares outstanding.

As we generate excess cash, we will consider additional share repurchases.

We also announced a 36% increase in our planned quarterly dividend to $0.15 per share, which we paid in the beginning of November.

Overall, we believe we have gained good traction on many of our key initiatives and feel good about the progress we will make in fiscal 2008.

With that let me turn the call over to Chris for some more detail.

Thanks, Ed, and good morning, everybody.

While Ed gave you an overview of each of our businesses' performance, let me go into a little bit more detail.

And let me begin with ADT Worldwide.

Overall, revenue grew 6% to almost $2 billion in the fourth quarter while organic revenue growth was 3.3%.

Operating income before special items grew 3% to $257 million and the operating margin was 12.9%.

The overall organic revenue growth of 3.3% in the fourth quarter consisted of about 4% growth in our product installation and service revenue and 3% growth in our recurring revenue.

For the full year, our overall organic revenue growth rate was 3.5%.

Our growth rates have been steadily improving over the past few years.

As a result of our business model changes, our overall organic revenue growth rate was zero two years ago, improved to 2.2% in 2006 and then to 3.5% this year.

Both our product installation and service revenue and our recurring revenue have increased consistently over the past two years.

Over the past year, we have made real improvement in growing our account base and average revenue per user, which importantly will drive higher recurring revenue growth going forward.

Our account base on a global basis grew by almost 2% in 2007, versus a decline over the past few years.

We ended the quarter and the year with approximately 7.1 million accounts globally.

The net increase in accounts benefited from both a greater number of new account ads and fewer disconnects, as our global attrition rate improved 30 basis points sequentially to 12.3%.

In addition, our average revenue per user also grew 3% year over year, excluding the impact of foreign exchange.

The overall average revenue per user has been steadily increasing, as take up rates of new products and services have also improved.

From a profit perspective, ADT Worldwide increased its operating income before special items in the fourth quarter on a year-over-year basis to $257 million.

The operating margin excluding restructuring was 13%.

However, included in this quarter's results were a $7 million legal reserve and a $10 million charge to convert some of our customers with analog cellular signals to digital signals.

As we mentioned last quarter, many of the cellular service providers in North America are shutting down their analog networks, beginning in February of 2008.

As a result, we must convert all of our customers with analog cellular backup services to digital signals.

Given our experience this quarter in converting these customers, we are revising our estimates for the cost of conversion and now we anticipate that our costs will be approximately 20 million to $25 million each quarter over the next two quarters.

On the restructuring front, we incurred $16 million in charges this quarter, primarily in Europe.

We expect savings from these programs to accelerate in the second half of 2008 as we implement them.

Now let me spend a minute on ADT's operating performance by region.

ADT North America grew 3% organically in the fourth quarter and its operating income and margin were negatively impacted year over year by the legal charge in the digital signal conversion that I just mentioned.

For the full year, North America had 3% organic revenue growth overall and the operating margin before special items improved to 17.1% from 16.6% last year.

The Europe, Middle East, and Africa region grew 2% organically in the quarter and for the full year.

Its operating margin before special items was just under 6%, which was slightly lower than last year as expected due to the recurring revenue headwinds that Ed just talked about.

ADT's operations in the rest of the world had a strong quarter and year with particular strength in Asia.

Organic revenue growth in the quarter and for the year was 10%.

The operating margin before special items for the year improved to 12.4%.

We continue to feel good about our business, particularly in Asia, as construction activity and globalization of our customer base are key drivers of the growth in this region.

On a total ADT Worldwide basis, we ended the year with operating income before special items of $971 million and an operating margin of 12.7%.

As we look to next year, we anticipate our operating margin before special items will improve modestly on an annualized basis, with most of the margin improvement coming from our restructuring savings in Europe that will ramp up throughout the year.

In addition to the slight seasonal bias we tend to see across our whole business, we expect performance to be stronger in the second half of the year due to the ramp-up in restructuring savings.

Partially offsetting these improvements will be the one-time cost we incur in the next two quarters to complete the analog to digital conversion in North America and therefore operating profit for total ADT will be relatively flat versus last year in the first quarter.

Now let me turn to our fire protection services segment.

The fourth fiscal quarter is typically our strongest revenue and operating income quarter of the year due to the higher activity -- higher level of activity in the summer months, particularly in some of our end markets, like schools and universities, when much of the service and installation work is done.

This year's fourth quarter was consistent with this pattern and we saw revenue increase 6% year over year and 7% sequentially.

On an organic basis, revenue grew 2% to $944 million.

Order activity was good in the quarter and our backlog is in good shape at $1.1 billion.

Our revenue performance if the quarter was relatively even around the world, with similar growth in our North American SimplexGrinnell business, and our international businesses.

For the full year, fire protection revenue grew 7% or 5% organically to the $3.5 billion level.

The fourth quarter was a strong income quarter, with operating income before special items of $90 million and the operating margin at 9.5%.

Our North American margins were our strongest of the year and continue to be much stronger than our international fire businesses.

Most of you know that our mix of electronic and service revenues is much higher in SimplexGrinnell than it is internationally, and this helps our margins in North America.

For the full year, operating income grew 21% to $287 million, and our operating margin improved 90 basis points to 8.2%.

Those of you that have followed Tyco for a while know that this has meaningfully improved over where this business was just a few years ago.

As we look to 2008, we feel good about the level of activity in the market, particularly in the areas where we have a vertical market focus, like energy, education, and healthcare facilities.

Driving a higher level of service revenue is also a key part of our strategy in this segment and almost 50% of our revenue is comprised of service revenue.

Now let me turn to safety products, where revenue grew 6% in the fourth quarter to $459 million and organic revenue growth was 3%.

Our organic revenue growth was led by our fire suppression, video access and control products.

Life safety revenue grew 4% organically.

Operating income before special items improved 10% to $88 million as a result of higher revenue, productivity, and cost reductions.

As many of you know, we initiated a replacement program for certain sprinkler heads in 2001 and took an additional charge of $100 million last year.

The claim period for this program concluded in August of this year and we took a $10 million charge this quarter as a special item to reflect our best estimate for all remaining claims.

Also during the quarter, we incurred $9 million of restructuring and impairment charges to commence certain restructuring actions geared toward exiting manufacturing in high-cost regions and simplifying our existing operations.

For the full year, safety products grew revenue 5.5% or 2.6% organically to $1.8 billion and the operating margin before special items was 18.4%.

Now I'll move on to flow control.

For the fourth quarter, revenue grew 23% to $1.1 billion, with 16% organic revenue growth.

Growth was strong across all of our businesses, including industrial valves, water, and thermal controls, heat tracing business, as well as across all end markets.

Our operating income before special items was $135 million and was up 22% over last year and our operating margin was 12.6%.

For the year, our operating income before special items was improved 37% over last year to $486 million and we increased our operating margin by 150 basis points to 12.9%.

Order rates continued to grow nicely, with orders in the quarter up 13% over last year and we continue to see strength in our backlog, which was approximately $1.6 billion and up 42% year over year.

Overall, we ended the year with good momentum and we anticipate continued strength in our end markets, particularly in the energy markets, that will drive revenue growth in 2008.

For the full year we expect organic revenue growth may moderate somewhat from the 14% rate we had in 2007 as our Pacific water business volume normalizes from peak levels over the last two years.

We expect our industrial valves and heat tracing volume, however, to operate at growth rates similar to the rates we have seen over the past few years.

Over the next several years, we will also continue to work toward optimizing our footprint by adding capacity in certain critical growth areas while shutting down certain facilities in higher-cost locations.

This year, we increased our capacity in certain areas to meet strong demand while they closed several facilities in the United States and in Europe.

We believe that these action, along with our operating leverage from higher revenue would help continue to improve our operating margin on an annualized basis going forward.

Now let me turn to electrical and metal products, where revenue grew 2% to $533 million, with organic revenue growth of 1%.

Overall volume gains were primarily offset by lower pricing for both steel and copper.

Operating income before special items was $52 million and our operating margin of 9.8% was about what we'd expected.

Compared to last year, our operating income before special items declined $30 million, primarily due to lower spreads and this was partially offset by higher volume.

We also incurred $7 million of restructuring this quarter, as part of our overall plan to consolidate our U.S.

distribution footprint.

As we look to the first quarter, we expect revenue to increase in the mid-single digits with operating income to be approximately flat versus last year's first quarter.

Our outlook for the year will be very much dependent on steel and copper prices, and we will provide you additional detail each quarter as we have more visibility.

Before I turn it back over to Ed, let me make a couple of other comments.

First, let me touch on our tax rate.

As you know, the size and complexity of the separation of Tyco into three independent companies has had a significant impact on the tax rates of the three companies.

We have had to restructure our tax infrastructure for the new Tyco and redesign our global tax strategies to meet the needs of the new Company.

We have developed a detailed tax plan and I believe we can achieve a tax rate of approximately 25% for the full year 2008.

Having said that, the timing of recognizing the impacts of certain tax matters could move the tax rate quarter to quarter.

For example, we expect the tax rate in the 31% to 33% range in the first quarter of 2008 and it could be below 20% in the subsequent quarter.

Looking at 2007, you can see these same types of swings.

While our tax rate was approximately 28% for the year, it ranged from a low of 13% in the first quarter to a high of 35% in the fourth quarter.

Now let me comment on our free cash flow.

As Ed mentioned, we have strong finish to the year.

In 2007, our cash flow was negative for the first quarter and modestly positive for the first half of the year.

Most of our free cash flow was generated in the second half of the year.

We would expect that same quarterly pattern of cash flow in 2008.

Now let me turn the call back over to Ed Breen to wrap up this morning's call.

Thanks, Chris.

Let me conclude with a few comments on our outlook and then we'll open up the lines for any questions.

Overall, we are feeling cautiously optimistic about our outlook in 2008.

We are paying careful attention to the economy both here in the United States as well as in our important markets internationally.

In 2007 we saw Tyco's revenue grow 5.4% organically, with 13% growth in the Asia Pacific region, 6% growth in Europe, and North America growing approximately 3%.

Based on our current assessment of conditions in our end markets, we continue to see strong growth in our international markets in 2008.

We are seeing continued strength in our infrastructure spending in Europe and Asia Pacific, primarily in our flow control business, where our backlog and order rates continue to show signs of strength.

Our North America fire business, SimplexGrinnell, has also continued to see a good level of order activity and our backlog is strong in that business, with orders -- order rates approximating our level of job completions.

In ADT, there are some signs of project delays in the retail space, but we believe these are delays and not cancellations given the economic value derived from our theft protection equipment used in this vertical market.

Many of you have asked us about signs of consumer stress in our ADT business and based on our experience over the last four quarters, we are not seeing any visible evidence of this.

Our account base and average revenue per user have both grown over the past year, which is a positive sign.

We estimate that new residential construction in North America comprises only about 15% of our new account additions in a year, so slowing in this market is not that big a deal for ADT.

Our biggest current area of focus in North America, as Chris mentioned, is the analog to digital conversion that is currently underway, and making sure that we execute this conversion as efficiently as we can.

Just to give you kind of the scale of this, we are currently in the process of converting approximately 210,000 accounts and we are switching out 7,000 to 8,000 accounts each week.

As was mentioned, we will incur one-time charges of 20 million to $25 million in the first and second quarter to complete this conversion and as a result, ADT's operating results will be negatively impacted by this estimated amount.

These costs should be fully behind us as we move into the second half of the year.

As we look to the full year 2008 from a guidance perspective, we would expect organic revenue growth in the 4% to 6% range as we indicated of our investor day.

Based on the various initiatives we are actively working on, we would expect earnings per share excluding special items in the $2.50 to $2.65 range for the full year 2008.

This guidance assumes a tax rate of approximately 25% for the full year, which will likely result, as Chris had mentioned, from a higher rate in the first quarter of '08 and lower rates later in the year.

This guidance also assumes that our electrical and metal products segment continues to perform in the 9% to 10% margin range that we have seen over the past few quarters.

For the first quarter, we expect to see revenue growth in the 8% range with organic revenue growing approximately 5%.

For the first quarter, we expect the Company's operating margin, excluding special items, to be approximately 9%.

As Chris mentioned, we would suggest a tax rate in the 30% to 33% range for the first quarter, but we would suggest analyzing the full year at a 25% rate, given our full-year expectations.

Thanks for joining us on the call.

Operator, if you'd open it up for any questions.

Certainly.

(OPERATOR INSTRUCTIONS) First to the line of Steve Tusa with JPMorgan.

Good morning.

Hey, Steve.

Two quick questions.

Just one on non-resi construction.

Can you talk about what you're seeing there broadly in the North American markets?

Steve, we've seen a little bit of moderating -- a little bit on the Simplex side.

Our growth rate, I would think, is going to kind of run in the 3 to 5% range.

As you know, about a year ago, there were a couple quarters there we were running around 10, 11%.

So we've definitely seen it ease a little bit.

But as we look across our business, it's interesting.

If non-resi softness, it would touch us some on the ADT commercial side, but again, a lot of that business is maintenance and recurring business, so it would be a subsegment of that category, and I would think that would be a little bit on the retail side.

And even on the Simplex side, a lot of that business, as we said, half of it is service revenue.

So as we look at it, we're saying, okay, it's going to moderate a little into next year, planning in that 3 to 5% range.

And I would also point out our backlog is as healthy as it's ever been in SimplexGrinnell, so we're going into the year in pretty good shape.

I would also add, internationally, though, we're continuing to see strength in that part of the business.

You saw our growth rates overall at Tyco are higher and clearly on that non-resi side the growth rates have been higher both in Europe and Asia for us and they still feel very good for us.

And I didn't hear, maybe I missed the cash guidance for the year.

Is that once again above net income?

How do we think about free cash flow?

As we said over time, we should expect it to approximate net income.

Great.

Thanks a lot.

Thanks, Steve.

Our next question is from the line of Nicole Parent with Credit Suisse.

Please go ahead.

Good morning.

Good morning.

I guess first, ADT, could you give us a sense of how much Europe was down?

And then within the North America growth rate, could you break that down by commercial and residential?

Nicole, let me just a little bit of an overview on the ADT.

I think the pieces actually mean a lot here.

If you look at it -- let me just give you kind of for the full year on ADT, the margins in Europe declined from about 6.3% to about 5.9%, and that's pretty much what we expected, because as we mentioned, and you know, we're still losing some of the high recurring revenue accounts that we think will cross over at the end of 2008 and turn positive for us.

When you model out our business, that's exactly what happened in Europe.

In North America, though, I would point out that our margins year over year improved from 16.6% to 17.1%.

Again, we're getting more recurring revenue, we're grow our account base, and that's helping us in our mix of business and our ARPU is also going up.

So all those -- and secondary factors are contributing to growth in that.

We also had growth in margins in Asia and Latin America.

The only one where we didn't have margin progress was this European one, which will turn in '09.

Super.

I guess with respect to revenue growth, could you just give -- you said Europe was down, how much was it down?

And within North America, do you have how much commercial was up and how much residential was down?

We don't have and we haven't disclosed, Nicole, how much commercial revenue grows and how much resi revenue grows.

Overall, the positive for us, not only in the quarter, but in the year, is that our recurring revenue, which Ed spoke about, has moved up nicely each of the last couple years and we now -- we finished the year in the 3% range, which for us, as you know, given the business model changes that we've made, is a very significant change.

Now, as you know, our recurring revenue is a very, very big piece of our residential business in North America.

Approximately 85% of our revenue in our residential business is recurring revenue.

Great.

And then with respect to safety, could you give us a sense of how how much fire protection and security were up and how much life safety was down?

And is it the mix that actually drove the very strong margins in the quarter?

No.

Actually, Nicole, we're getting some good operating leverage there and a lot of cost containment actions have continued, including, we're starting to see some initial benefits on the restructuring.

We had very high margins as you saw, on the business, but I would point out to you, life safety is our highest-margin business of the three.

So the fact that one was the one that was down actually hurt us, but we offset that with good cost containment and productivity improvements across the board, which to me was a very good sign, because life safety will not stay down here forever.

Great.

Just one last one.

Ed, you provided some context on where you've come from.

When we think about where you're going to over the next couple of years, when you think about the heavy lifting, you obviously have this analog to digital conversion within ADT, are there any other big kind of restructuring efforts that you have to undertake, or as we get towards the end of '08, is that about it?

Well, we'll always have restructuring, but we will not talk about restructuring that's a special item.

Let me say it that way.

You know we're doing a $400 million and some restructuring here.

It's very broad for us.

We have very good traction.

You can see the corporate cost piece, we've just about accomplished the bulk of it where some of the restructuring went.

But the biggest restructuring is Europe, we're well into it, we've got a lot of our approvals in place, because over there it takes some time.

We're starting to click against that and you will see that wind down as we get to the end of the year and then start seeing the savings from that.

Let me just mention on this analog to digital, it is unfortunate, but it's one of these things we have to do.

The wireless carriers are switching out their analog systems.

It is somewhat, in my opinion, going to disguise the traction we're seeing on our op margins in ADT in the first half of the year because it's going to cost us about 100 basis points of margin that we would have if we didn't have to do this.

But we will get it out of the way and go from there.

So I kind of look at operationally how I feel our business units are doing, we're going to see nice progress in this fiscal year, although somewhat disguised in our numbers with this analog to digital conversion we have to do.

Great.

That's helpful.

Thank you.

Thanks.

Our next question is from the line of Shannon O'Callaghan with Lehman Brothers.

Please go ahead.

Good morning, guys.

Good morning.

On the corporate expense, you are almost at the target, excluding the income in that segment, I mean, corporate expense was around 135, so to get to the high end of your target, that's only sort of 125 a quarter.

That corporate expense line is looking a little conservative in terms of getting to 500 by the middle of this year.

What needs to happen, and the target is 450 to 500, how soon do you think you could get to the middle or the low end of that?

Well, Shannon, obviously, we're working aggressively to bring that to the targets that we have.

As we said, we're comfortable that we'll get to the 500.

We're still, at the end of the fourth quarter, running a little bit above that target.

So I think we're going to see steady improvement.

We've taken all the actions.

We have a very detailed plan to get us there.

But you also get, within the corporate spending line, there are other items that are, that flow through there that aren't just spending items.

So I think we're comfortable with the guidance that we gave and again have a very detailed plan to make sure that we get there.

Okay.

And then on electrical and metal, obviously understand the way that moves around, why you want to kind of guide cautiously.

But seeing the sequential margin go up from 5 or 6 to 9 now to about 10, is there -- is there anything you're seeing, at least in the current line of business that leads you to believe that 9 to 10% is the right number for this year or anything that would make you believe that this sort of sequential ramp doesn't kind of continue the way it is for a while?

Shannon, if you look at the past year, we have been between 9 and 10% all but one quarter.

So again we don't see anything right now in the marketplace.

And as you said, we see copper being very volatile.

It's volatile, within a month it goes up and it goes down.

It can swing 20% in the quarter.

So this is a very hard area, obviously, which to predict.

So I think based on what we've seen, other than the second quarter of 2007, where it really dropped down, we see that 9 to 10% as the best guess.

And, look, we're into this quarter and that's what we're giving you guidance on for this quarter.

So we're comfortable we're in those ranges.

Shannon, as we said, Chris made his comments, we will give you our feel each quarter as we get there as to where it will be.

Yes.

No reason to believe it's going to pop up significantly.

Okay.

And then just last one, one more on ADT.

Ed, I think you've talked in the past about this eventually being kind of a 5 to 6% organic grower.

Been making steady progress, as Chris pointed out in some of the ramp there.

When do you think you can get to that normal range?

Well, I'm not going to put a time frame on it, but let me put a little color around it.

I think Chris had mentioned, this business was actually a little negative a few years ago back.

We got it to zero -- 2006, we got it to 2.2%.

This year we got it to about 3.4%.

What feels good to us is the recurring revenue piece of this, which doesn't then move around much, once you get it moving in a direction has now picked up off us losing accounts.

We lost almost 1 million accounts in the past.

We are now back, growing accounts.

As you can see, every single quarter of this year, we grow our accounts.

Our sales force is getting more and more productive and two things are happening.

We're gaining more accounts and our ARPU is going up, as we mentioned.

Our ARPU went up 3% year over year and our accounts went up a little over 2%.

So when you look at that, that bodes well that the recurring piece of that business will clearly continue to pick up and that's what we're forecasting will happen.

Then, obviously, we're very focused on the commercial side of the business.

Again, that can be a little bit lumpy.

The retail might be a little softer here, but with our focus on vertical marks that we've gone to, I feel very good that we're going to get what's out there.

We're going to get our fair share of it.

So I think we'll continue -- pending economy, which generally globally is feeling good for us, we'll continue to see progress in this area, but clearly the juggernaut of the recurring looks like it's in place to recurring.

Shannon, I would also add that, as Ed mentioned in his prepared remarks, that we still have the headwinds in Europe on a recurring base and we're focused as we go through '08, as we talked about, on the restructuring program in Europe to make sure that we're really going after the more profitable business.

Again, that will tend to be a drag on that overall growth rate as we go through '08 on a global basis.

Okay, great.

Thanks a lot, guys.

Thanks, Shannon.

Our next question is from Jeff Sprague with Citigroup.

Please go ahead.

Good morning.

Good morning, Jeff.

Just maybe one or two more on ADT.

Can you give us a -- I guess -- actually, let me back up a little bit.

It looks like the account base is up 2 in the quarter and the ARPU is up 3.

Can you -- I mean, the disconnect is not big, but that kind of implies 5ish for growth and it's 3.5.

I guess there's some disconnect there between installation and other things, but can you just give us a sense of how to think about that and should we actually track to kind of ARPU growth over time?

Jeff, let me take a shot at this one and help.

The account growth number, being up over 2% is a full-year comment and that's where we finished the year.

The ARPU growth is, again, year-over-year, how much has our revenue per user grown.

So the numbers are in fact 2% per account growth to over 7.1 million accounts and the ARPU growth again, and this excludes the impact of foreign exchange.

So what this really means is, as Ed just spoke about a minute or two ago.

It bodes well for our confidence in the recurring revenue as we move into 2008.

Now, obviously, the other thing that we carefully monitor is the disconnect rate, and our disconnect rate was good in the quarter.

So these are -- these are not looking back statistics.

These are looking forward statistics and bode well based on where we finished the year for the kind of recurring revenue we would expect the business to be able to generate in 2008.

Does that help?

That does.

And then I guess just -- even backing everything out of ADT in the quarter, the additional 17 that's kind of embedded in the numbers, it looks like the margins are kind of flat.

With the ARPU going up, why wouldn't we start to see a little bit more of a blend up in the margins?

Well, Jeff, let me just go back -- I think you were on a comment on the fourth quarter.

I think if you back out those items -- look, we got to get through.

Our legal issue there that we're paying and the amps thing, the margins were up in the high 13% range on an ADT global basis.

By the way, that will be disguised -- if that's the right word to use -- a little bit more again, in the first and second quarter quarter because we're installing the headwinds of the amps replacement program, but I think you can see some traction building there.

And again, we have to turn Europe, so once we turn Europe, as we said, the other three regions, the margins were up some, Europe was down, we will turn Europe as we go into '09.

So getting through the amps thing and Europe then turning later in the year with the restructuring and the actions we're taking will continue to help the margins.

I guess with a I'm trying to get at, it looks like we're kind of flat -- so we're running high 13s kind of run rate.

That's what we should kind of consider the full year '08 builds off of less than the takeaway from the analog conversion?

That's correct.

That's what you build off of.

And then just on the retail project issue.

If you do look at fire, the revenue growth organically has been kind of decelerating sequentially.

It looks to me like there is some weakness in retail construction starts and things like that.

What kind of visibility do you have on these retail projects and in terms of timing, are they part of the forecast going -- expecting this stuff to kind of roll back in in '08 or -- just give us a sense of the size of that and what kind of impact it's having on the revenue growth.

I think, first off, we do have visibility as we look at the orders and we break them down and retail being one of our key vertical markets.

And the orders in our business did pick up in 2007 from what it was in 2006.

And as Ed mentioned in his remarks, we are seeing some delays, but not cancellations.

And I think our outlook -- I mean, we are looking at it closely, tracking it closely to see whether, as we get further into '08 whether that's going to have an impact.

So right now we are not seeing a very significant movement, but we are seeing some delays, as you indicated in new starts on the retail side as well as some of the upgrades that were planned planned with some of our major retail customers, but essentially just moving that back a little bit in the year.

Jeff, back to my comment a few minutes ago on one of the questions.

That's why we're saying, hey, the fire business will probably grow in that 3 to 5% range.

That's where we're at.

We're not thinking this thing is up in the high single digits where we were a year ago.

But let me also say, we have other very key verticals that we track these verticals on the non-resi side by the way, in a bunch of ways.

And some of our big ones, as you know, are schools, universities, and health care facilities, and energy installations.

When you look at the Dodge reports, if you want to use that as somewhat of a barometer.

They are the ones that look like they are still running pretty hot.

So we have some pretty decent verticals, however, some softness on retail.

Can you give us just a little sense of what you see in terms of the M&A decline?

You said a couple times we could expect bolt-ons, but is the Company now refocused on M&A as more of a go-forward growth angle and rebuilding the pipeline?

No.

That's not our number one priority.

Our number one priority is growth initiatives internally in the Company.

We feel like we're sitting on a lot of our own opportunity to gain market share against the competition we're up against, which in many of these businesses, we all know is a lot of small, local players and we feel by leveraging our technology, we can develop internally, that will give us advantage.

So that's clearly our number one opportunity.

And our number two, which you see from the actions we're taking, is the focus on productivity improvement and our restructuring actions, because they're going to bring a lot of leverage to our bottom line.

After those, I would put yes, some bolt-on acquisitions are on our radar screen, but I truly call them bolt-on, and I think the one we just did is a great example.

It brings the technology in, it didn't cost us a lot of money, but we can leverage it through our service platform.

And when we do do a bolt-on, I would add, it will be on one of the three global leading platforms we have.

Either fire, security, or industrial valves.

We're not going to branch into anything else.

So we're going to continue to solidify our position there.

But look, Jeff, one of the things we can do over the next couple of years here is, the redefining of our portfolio, I think, is very important and we're going to get some things out of it, like our Earth Tech business, get good cash in, and we can redeploy that into these core three global platforms that we have.

And I think the portfolio refinement will be a very good thing over the next couple of years.

Thanks a lot, Ed.

Thanks, Jeff.

Our next question is from the line of John Inch with Merrill Lynch.

Thank you.

Good morning.

Good morning.

Sorry, I got disconnected from the call, so you might have articulated this already.

I just wanted to go back to the leverage.

It looks like your operating profit, ex special items and corporate, was up about 1% with the revenues up about 9.

Why wasn't there more leverage in the operations?

Was that just the impact of currency, or was there something else going on that you might have mentioned before, and I apologize if you did.

Again, we did get some leverage across some of our businesses.

We were relatively flat in Flow Control again, as we looked at some project timing, we did get the benefit of the reduced corporate expenses.

And the biggest hit in terms of operating was the big reduction in temp, where on a year-over-year basis, our profits declined by $30 million and as we mentioned on the call, if you look at it on an annual basis, we were down $150 million year-over-year in profit.

So that has had the biggest impact.

There's obviously some, the analog to digital conversion process that started that impacted our margins somewhat in the legal charge.

But other than that, I think we're seeing the normal kind of leverage that we would expect.

So as you've given your guidance, are you assuming, particularly given what's going on at flow, are you assuming a variable contribution for your profits at a faster clip than the expected revenue growth?

Yes.

What we indicated is we do see continued margin improvement in flow control.

We improved our margins by about 150 basis points in 2007 and we see further improvement on an annualized basis going forward.

Chris, we calculate, I think, margins this year ex corporate and special items to be about 12%.

Is that roughly an accurate number and what are you thinking for '08 in terms of margins, ex corporate and special items?

Again, we gave our guidance for the full Company and not by the individual business units.

Okay.

But, I mean, it's -- all right, well.

I don't think you're far off.

Yes, I think your math is--.

Yes, math is--.

Sounds reasonable.

Maybe just one more--?

Again, we gave the guidance that we expect that our corporate expenses will get down to the $500 million run rate here by the middle of the -- by the middle of the year.

Okay.

Well, I can go through the details offline.

Let me ask one more question.

Where, Ed, do you -- how are you thinking about the portfolio vis-a-vis margin potential runway, and not obviously wanting to overpromise, but how are you thinking about the upside, vis-a-vis, once we get through all the restructuring, if my 12% number is accurate, forget about the exact number, but do you see a couple of points of upside?

If this portfolio were run more efficiently, do you think it's much more than that?

How are you thinking about normalized margin potential for Tyco at this point?

Look, I'm not going to put any time frame on it or any specific number, but let me say -- look, two of our larger opportunities in the coming years here are the flow control business, obviously Chris just mentioned.

We are expecting continued leverage through that P&L with the volumes that we're seeing and that's feeling very good going into this fiscal year, as it did all last year.

And we would expect, as we said, our margins to start improving in our European business, the ADT and fire business in Europe as we're exiting '08 going into '09.

That's for two reasons.

One, again, remember, is accounts growing, again, or stopping the decline, and number two is the large restructuring that's going on over there.

So there's two areas which I would put at the top of the list.

I would also just say, as you're kind of modeling out, one of the things you can see we're focused on, we can get margin expansion, but Tyco, this part of the Tyco portfolio, we all know, never grew at the rate that it could grow at because we went through all these kind of gut-wrenching business model changes.

So we're just as focused on growth rate as we are margin expansion.

So in the ADT business, you can see year over year absolute profit dollars were up nicely compared to where we've been, but part of that came from growth, part of that came from some margin expansion.

So for us both of those are focus areas to move it forward.

And Ed, you talked about bolt-ons, your cash is still sort of on plan.

Where does share repurchase kind of in the trend line fit into all of this?

Well, as we said in the call, look, we want to move on with the share repurchase here.

We were out of the market for a little while, waiting on these year end results and all that.

We are sit -- we have the cash, so we plan on spending it on the share repurchase and getting that done.

As I pointed out, we expect good cash flow again, as Chris said, in '09.

By the way, we're going to get some proceeds in from some business sales that we're making.

We're expecting $300 million in -- by the end of the second quarter for the Brazilian business, plus we have the rest of Earth Tech still that we're going to sell.

So we will have cash flowing in.

As I just want to stress, we're not sitting here saying, oh, boy, we could go do a bunch of acquisitions and spend it all.

If there's something good bolt-on, we'll do it, but the rest of it would be something, most likely a shareholder-friendly action.

Thanks much.

Thank you.

Our next question is from Nigel Coe with Deutsche Bank.

Please go ahead.

Thanks, good morning.

Good morning, Nigel.

A quick question on ADT margins, I apologize for budging a dead horse here, but if you back up the noise from 1Q '08, I think you said that operating income flat in 1Q '08.

If you back out the noise, it looks like margins are up about 70 bips.

Is there any reason to believe you can't maintain that throughout the year?

No.

The math is exactly right, what you just did there.

Okay.

So you're looking for underlying margins to be up 70 bips less the Watters transition costs.

Right.

But those one-time transition costs are in our numbers, as we report them, but we will highlight what the exact number is each of the next two quarters.

Okay, great.

Then on the flow, you just referenced the flat margins in 4Q.

It looks like it was quite a tough comp last year, but was there anything else going on there, be it product mix or geographic mix?

You know what, we analyzed this one in detail.

We have some big projects going on and there's timing of costs and projects.

I would not read anything into one specific quarter at all in that business.

I would look at the year-over-year progress of 150 basis points and I would say our confidence that we will continue to improve those margins in this fiscal year.

Okay, great.

And then finally on the free cash conversion, I think you said that you expect to have free cash conversion -- free cash equal to net income over the long-term, but you did about 115% in 2007, excluding items.

Any reason to believe that you can't do that kind of number again next year?

And maybe you can just comment on CapEx and dealer account acquisitions in 2008?

I think that we're confident with what we've said here.

Again, you're on it.

It's a matter of balancing the capital expenditures in our dealer expansion opportunities.

So if we see opportunities there to grow our business, we did make additional investments this year and I think if you look, for example, in our flow control business, that we just talked about, we are adding capacity in certain places as our volume continues to increase.

We are making some capital moves in terms of the restructuring that we're doing, that will reduce our cost base over time.

So we're going to monitor that closely.

But those are the two variables that we want to make sure we have flexibility.

Nigel, just to point out, in the fiscal year '07 that we just ended.

I would call -- we spent over $150 million incremental year over year on growth initiatives.

Our CapEx was up over 110 million, $115 million.

We spent more on subscriber -- a little more on subscriber and dealer fronts.

So just to Chris' point.

We came in at $1.1 billion of free cash flow this year, but we also incrementally took up our growth spend, that $150 million, which I feel good we did.

And that's the question, how do we throttle some of that if we have good opportunities in '08?

So I think the forecast that we said is what we would stick with.

Okay.

Thank you very much.

Thank you.

Operator, we're getting close to the bottom of the hour here, so we have time for one more question.

And that will be from the line of David Bleustein with UBS.

Please go ahead.

Good morning.

Stuck in under the gun.

Hi, David.

Can you walk us through some of the uses of cash for next year?

I guess the first question is, is any component of analog to digital being capitalized, or is what's running through the expense line the whole thing?

David, what we believe right now, is that, in our forecast, we have estimated that we are not capitalizing any of that.

I will say that there are certain transactions that you could do that would allow you to capitalize it, but we have not forecasted that in our numbers right now.

We are expensing this and we are getting some revenue on it as well as we convert our customer base.

What run rate should we assume for the dealer program?

Again, we've been increasing that dealer program, we're about $400 million this year, and I think we're going to increase that modestly in the next -- in the next year.

Again, looking at the quality of the accounts, I think that we're also looking at there are opportunities here if our competitors are weakened by tighter credit markets that don't impact us quite as much.

So again, we have been increasing that spend each year over the last couple of years.

I wouldn't see anything dramatic, but I think we'll see an increase in that.

David.

The last year's probably pretty reflective of the comments that Chris just made.

If you look at the last year, I think the dealer spending year over year is up 35 -- $37 million, something in that range.

So to Chris' point, it will depend on market conditions and credit quality and things like that that have been very much a part of our focus on the dealer front over the last few years.

Great.

Cash tax rate?

For 2008.

I think for modeling purposes, you probably ought to use about what our annualized tax rate is.

So in-line with the book rate?

Yes.

Okay.

And then, Ed, just one question on acquisitions.

You mentioned bolt-ons a couple of times.

Can you talk a little bit about the pipeline of bolt-ons you see out there and potentially the pricing in this environment?

Yes.

I want to be careful what I say, competitively here.

But let me just say one of our focus areas is finding technologies and these are not typically big companies here, but technologies that are coming along that will help us both sell that technology, which might, for instance be in our TSP business, like the one we just did and will leverage our service company, whether it's our fire service company globally, or our security company globally.

Because we feel like we can get a lot of leverage there.

So as an example, the two smaller ones that we've done in the last two months was the retail expert one, which is software that gives us a competitive advantage in this whole retail vertical that we have with ADT, and we think really is a competitive advantage, and we will grow that business in itself plus help us from a market share standpoint.

And the one we just announced during this past week, Trident Tek, gives us some advanced IP-based video surveillance technology, which we're already a major player in.

We have very good growth rates there, but we think we can also leverage it on to our ADT platform.

We are looking at a number of things and you kind of look at them in that area, in that, kind of that ilk that would be very interesting for us, to put on the platform.

Perfect.

Thank you.

Okay.

Ladies and gentlemen, thank you for joining our call.

We look forward to talking to you about any follow-up questions over the next few days.

Obviously, we will be doing our next conference call in early February when we discuss our first quarter results for fiscal year 2008.

Thanks for joining us.

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