Kaman Corp (KAMN) 2014 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Kaman Corp. second-quarter 2014 earnings conference call.

(Operator Instructions).

I would now like to turn the conference over to Mr. Eric Remington, Vice President Investor Relations. Please proceed.

Good morning. Welcome to the Kaman Corporation's second-quarter 2014 conference call to discuss our earnings results. Conducting the call today are Neal Keating, Chairman, President and Chief Executive Officer, and Rob Starr, Senior Vice President and Chief Financial Officer.

Before we begin this morning please note that some of the information discussed during today's call will consist of forward-looking statements setting forth our current expectations with respect to the future of our business, the economy and other future events. These include projections of revenue, earnings and other financial items, statements on the plans and objectives of the Company or its management, statements of future economic performance and assumptions underlying these statements regarding the Company and its business. The Company's actual results could differ materially from those indicated in any forward-looking statements due to many factors, the most important of which are described in the Company's latest filings with the Securities and Exchange Commission including the Company's 2013 annual report on Form 10-K and the current report on Form 8-K filed yesterday evening together with our earnings release.

In addition, in our press release and on this teleconference we will discuss certain financial measures and information that are non-GAAP financial measures. Reconciliation to the comparable GAAP measures is included in the tables of our press release, which has been filed with the SEC and posted to the investor relations section of our website, which can be accessed at www.kaman.com.

With that I will turn the call over to Neal Keating. Neal?

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

During the second quarter we continued building on the positive momentum with which we began the year delivering diluted earnings per share of $0.60. We were pleased with the performance across our businesses with distribution continuing to demonstrate improvement and with aerospace also delivering a solid result.

Looking at each of our segments beginning with distribution where sales were up 12.6% over the prior year to a record $304.2 million. The second quarter included two months contribution from the acquisition of B.W. Rogers and resulted in our highest consolidated growth rate since the first quarter of 2011. For the quarter organic sales growth was 3.1%, our third consecutive quarter of organic growth.

As we look at the quarter our infrastructure-related end markets were strong including housing and construction-related industries. In addition, chemical manufacturing, food processing and semiconductors all posted strong year-over-year improvement.

We remain focused on driving organic growth and during July achieved our goal to hire an additional 60 salespeople which was slightly ahead of schedule. We know it will take a period of time to effectively integrate them into the sales organization but still expect that this investment will achieve a breakeven run rate by yearend.

Operating margin also showed progress in the quarter improving by 90 basis points sequentially to 5.1% and operating profit increased 12.8% over the prior year to $15.4 million. When we last spoke we had owned B.W. Rogers for just a few days and now after three months the operation is off to a great start.

It is clear to us that we have added a strong management team that has integrated well and provides us a solid foundation on which to integrate our fluid power operations. The acquisition adds significant scale to our fluid power business and strengthens our relationship with Parker Hannifin in the United States.

Last week, Steve Smidler announced that he has rounded out the senior management team in distribution with leaders now in place for each of our three platforms. Tribby Warfield will join us next week to lead our fluid power operations.

Tribby is a seasoned professional who has spent her career at Gates Corporation in various positions across the globe. She most recently led all commercial activity for their power transmission and fluid power business in the US, Canada and Mexico.

She joins Tom Weihsmann, a 20-year command veteran who is responsible for our bearings and power transmission platform and Gary Haseley at automation control and energy who built Zeller Electric into the great company that we acquired in 2012 and has become the foundation of our ACE platform. I am confident that this management team and our dedicated employees across demand distribution will drive the growth and improved performance we expect in the coming years.

Finally, I am pleased to report that at the beginning of July we went live with the new distribution ERP system as part of the first phase of our rollout. Slightly over 10% of our sales volume across 16 locations is now on the new system.

This implementation was managed well and met expectations. While we still have a long way to go, this was a significant milestone and builds our confidence for the future.

Moving onto aerospace, sales were lower than the prior year as a result of several anticipated headwinds in the quarter including lower sales of BLACK HAWK cockpits and engineering services, less favorable mix of commercial sales on the Joint Programmable Fuze program and lower sales of bearing products, which was expected due to non-recurring military retrofit orders last year. Excluding these one-time deliveries bearing sales were up mid single digits year-over-year and we remain confident in the outlook for bearing products as new programs such as the A350, where we have over $300,000 in content, begin to come online. During the balance of the year we anticipate revenue trends to increase as we recognize the revenue on AH-1Z cabins and we begin delivering SH-2 aircraft to New Zealand.

The Joint Programmable Fuze program continues to perform well with deliveries of approximately 5,900 fuses, 700 more than last year. As expected, our mix of JPF sales and shifted to more US government deliveries resulting in slightly lower revenue and margin. In July, we also received additional JPF orders totaling $14 million under our Air Force contract adding to our quarter-ending program backlog of $108 million.

Turning to other aerospace highlights, the 747-8 wing-to-body fairing program is moving forward smoothly. Last quarter we announced that the tooling had arrived in Jacksonville from Boeing's Winnipeg facility and we have now begun production and plan to begin deliveries to Everett by the end of the year.

Our new Charleston engineering services office has ramped up in support of the Boeing 787 program and we believe the initial success of the hub in Charleston will result in additional growth in 2014 and beyond. In addition, our new specialty bearings facility in Germany is fully operational and we are now well positioned to support our growing European customer base. The move costs, start-up expenses and transition inefficiencies did temporarily impact our results in the quarter and while we believe the one-time costs are mostly behind us it may take the balance of the year to return to more normalized sales volumes.

With our investments we have built an aerospace platform that is positioned to drive improved operational performance, win additional work and successfully execute new programs to provide steady, long-term growth. In summary, we have delivered a strong first half in 2014 positioning us to deliver a solid year.

Now, I would like to turn it over to Rob to provide you with some additional details and color. Rob?

Thank you, Neal, and good morning, everyone. As Neal highlighted midway through 2014 we are pleased with our performance to date from both segments.

Distribution delivered strong sales and earnings growth led by the addition of B.W. Rogers while aerospace delivered a strong quarter was 17.2% operating margins. Focusing first on distribution, they posted a 5.1% operating margin for the quarter achieving significant sequential improvement over the first quarter.

Continued positive organic sales growth, margin improvement initiatives and the accretion from the addition of B.W. Rogers all contributed to distributions results. The operating margins results were achieved despite a number of mostly anticipated headwinds including acquisition and integration expenses associated with the acquisition of B.W. Rogers, costs associated with our growth initiatives including the addition of the aforementioned 60 new salespeople, ERP implementation expenses and continued expenses associated with the closing out of the mining contracts at our Mexican operations.

Moving to aerospace, revenues were lower year-over-year due to the absence of non-recurring retrofit bearing program, a higher mix of US government Joint Programmable Fuze sales and the shifting of certain aerostructure program deliveries into the second half of the year. Aerospace's 17.2% operating margins were above expectations largely on account of the push out of lower margin aerostructure programs into the second half of the year.

Margins at aerospace were lower than the prior-year period due to difficult comparisons. The key factors impacting year-over-year margin comparisons were the lower levels of non-recurring retrofit bearing projects, as discussed, a lower mix of higher-margin Joint Programmable Fuze to foreign governments and the expenses and production inefficiencies associated with the opening of our new facilities in Europe. Our year-to-date free cash flow from continuing operations improved by over $28 million over the prior year demonstrating the impact of our companywide focus on improving working capital efficiencies.

Turning now to our outlook. We have updated it slightly as we have more visibility into the balance of the year.

While we have refined some of our segment projections, I would like to highlight that the midpoint of our revised outlook on consolidated earnings remains essentially unchanged. In addition, we have raised our full-year expectations for free cash flow.

Starting with distribution, we have narrowed our sales range for the year by bringing up the lower end of the range by $10 million and have also increased the lower end of our margin outlook from 4.7% to 4.8%. This is a result of the higher level of confidence in our base business after six months of actual results and the strong initial contributions from B.W. Rogers.

In aerospace, we have maintained the sales range for the year despite the change in the timing of certain aerostructure programs. We have lowered the top end of our aerospace profit range for the year from 17% to 16.7%, primarily due to a slightly lower mix of bearing product sales from our German facility, most of which we expect to occur in the third quarter. We have indicated at the beginning of the year that our full-year net earnings would be weighted toward the back half of the year and that is still our expectation.

At this time we expect one-third of our full-year net earnings to be recognized in the fourth quarter. This is primarily driven by aerospace where we expect higher bearing product sales, a beneficial sales mix of fusing products and the achievement of a number of milestones on the New Zealand SH-G program to occur during the fourth quarter.

Our corporate expense outlook is unchanged as expenses have tracked largely in line with our expectations. Corporate expense projections include more than $1 million in acquisition costs largely associated with B.W. Rogers.

Our outlook for free cash flow has increased and we now expect to generate between $50 million and $55 million for the year. This is due to improved working capital expectations and reduced capital expenditure levels.

To summarize, we have slightly refined our ranges of potential expected performance for the year. However, our midpoint for net earnings remains unchanged. Overall, we are pleased with our performance midway through the year and remain confident that we will continue our strong performance over the balance of the year.

With that I will turn it back over to Neal. Neal?

Thanks, Rob. As we enter 2014, we face uncertain markets in our distribution business as well as operational risks associated with the start up of two new facilities in our aerospace segment and the first implementation of our new ERP system in distribution.

Now, halfway through the year, I am pleased that we have navigated many of the operational risks that were on our radar screen, delivered two more quarters of organic growth and distribution and successfully completed the addition of B.W. Rogers to the command team. We recognize that a lot of work lies ahead in the second half but I am confident that we can continue to build momentum through the balance of the year.

With that I will turn the call back over to Eric. Eric?

Thanks, Neal. Operator, may we have the first question, please?

Thank you. (Operator Instructions). Arnie Ursaner, CJS Securities.

Hi, good morning. The salesforce additions obviously is a very important positive for next year.

You mentioned you got to the 60 people ahead of certainly our original thinking which was more Q3 and Q4 loaded and you indicated you hoped to achieve breakeven -- a breakeven run rate by yearend. Can you quantify how much it is impacting margin this year and how we should think about margin for distribution next year when these salespeople are up and running?

A couple of things. We certainly got there a little quicker than we had expected, as well, just based upon the quality of the applicants and the process that we ran.

In terms of the impact, it certainly had an impact in the second quarter on our SG&A in distribution as we incurred a fair level of recruiting expenses in bringing the salespeople into the organization. And we will incur additional SG&A burden for the remainder of the year as we really transition them effectively onto the sales organization.

We do still expect to be at a breakeven run rate come the end of the year. In terms of next year these folks represent approximately, give or take, about 10% of our outside salesforce in terms of the incremental headcount that we now have in external sales. So we certainly expect next year that it would have a favorable impact and we'll certainly give you more clarity as we get later in the year.

Okay. And then the other question I have relates to, and you have mentioned it several different times in different ways, the shift in the anticipated product mix for the year which is causing a little bit of an impact on the aerospace margins. I know you went through some of the general items, JPF and bearings, but can you drill down a little more on the specific programs that you see shifting from Q3 to Q4?

Sure. There are a couple of programs, most notably we were really be relating to the AH-1Z. We had expected a more level revenue recognition as it related to that program and as we discussed in the Q, there is a small call it technical issue in terms of the accounting revenue recognition relating to the completion of the cabin that we are currently working with our customer to resolve.

But certainly the timing of the revenue will get pushed out mostly into the fourth quarter. That will have an impact.

And also Arnie, as we commented the relative output of our new facility in Germany will be a little bit lower in the third quarter, as you would expect. We worked with our customers to assure that they had adequate inventory in place in the first and second quarter of this year in case we did have any disruption. We did not have any disruption.

The move went quite smoothly. But we do have a slightly lower order level there right now that we would expect to get to more normalized levels during the fourth quarter. And obviously the bearing product lines continue to be our highest margin product lines.

And finally, as well, I think we did comment that we expect to have a higher mix of FMS and DCS sales of JPF in the fourth quarter than the third. So it's really those are the primary drivers of that variance.

Not to abuse my question limit, but you mentioned several times a lower margin aerostructures piece moving to the back half of the year. Could you be a little more specific what that is?

Sure. Arnie, if you look across the product lines that we have today in the aerospace portfolio both the bearing product lines as well as the JPF product lines are higher than segment average. And both are engineering services products as well as our engineering services as well as our aerostructures programs are lower than average. So really it's a mix shift towards those lower margin product lines as opposed to a shift to any one product, or program that might be lower margin.

Thank you very much.

Edward Marshall, Sidoti.

Good morning, guys. So to go off the first question again with the distribution business, I was wondering if I could ask it maybe a little bit different.

For some time you've had a goal of 7% margins in that business. And first I don't know if that is still the goal and I know the timeline has been kind of extended there but I'm wondering with the headcount, with the integration costs, with the ERP installation if we kind of strip out all the noise, where are you in reference to that goal that you had previously set?

No, that's a good question. Certainly if we strip out the recruiting expenses and the expenses associated with ERP, which will certainly increase as we start incurring depreciation in the second half now that we have gone live.

We've made some pretty meaningful progress towards 7%, as you mentioned. Certainly the timing of achieving 7% is going to be reevaluated based on market conditions and certainly current developments.

But we've made pretty meaningful stride. We've talked about there being in the back half of the year a 20 basis point headwind related to ERP. Certainly with a 5.1% quarter, I think you could certainly add to that margin.

We did incur a fair amount of recruiting expenses in the first half of the year relating to the addition of the salesforce. That certainly had a meaningful impact on margins in particular in the second quarter.

And we also incurred additional charges related to Mexico as we referenced in the Q. So when you strip away what we would consider unusual one-time, we certainly have gained toward that 7%.

And secondly I guess, the second half of the year just to hit the midpoint of the range just indicates a meaningful pickup in the distribution side margin. Is that sales driven? What's driving that margin improvement?

It will be a couple of things, Ed. First of all, we have seen accelerating organic growth even though we would like to see it higher, so our outlook reflects continued low-single-digit organic growth.

Certainly the addition of B.W. Rogers and the increased mix of fluid power product lines sales will help us simply because, as you know, they are higher profit margins. Also in the first half of the year our OEM business in particular in our automation control and energy platform has been a little bit behind. We've built backlog there so we expect to clear that backlog in the second half of the year.

And again that's a little bit higher margin as well. So when we look at that and we combine it with a few of the headwinds that Rob referred to in particular probably the Mexico contract losses in the second quarter, those are really the key drivers of our improvement in aerospace through the second half of the year.

Last question. If I look at -- because it's kind of a meaningful drop -- but if I look at the backlog for aerospace in the drop in 2Q backlog, is that driven by defense or is it just kind of timing related, which I know kind of hits the backlog from time to time?

Ed, you're right. Timing really hits that backlog. As you know we typically get either new orders, new contracts or new releases on orders and particularly in the aerospace side, which is really what drives this backlog. They come in relatively large chunks.

And also I think that you know our policy is that we don't put anything into backlog until we have a firm contract or release for it. So we did -- actually we were up $34 million in the first quarter. You are right, we are done now in the second quarter but there's both military components to that as well as commercial components to that.

As you have seen we added about $15 million of JPF quarters that have come in the third quarter that would go into the backlog as well as we are anticipating another release on AH-1Z, which would be very significant for us, probably in excess of $30 million there. So those would both be on the military side and in fact on the commercial side we have -- and also probably UH-60 coming in as well.

And on the commercial side we are just finalizing the contracts with Boeing on both the 747-8. So that would come in we anticipate in the third quarter, probably early in the third quarter. And also we have renegotiated with Boeing on both the 767 and 777 fixed leading edge.

So we would expect to have that contract release coming into backlog as well. So there are a number of components that will build our backlog back up. Actually, we are pretty happy it's not quite a year but almost a year of sales and backlog.

So we feel pretty comfortable with that level. But we do have a good mix of both commercial and military programs that will add to that during the third quarter.

Perfect. Thanks, guys.

Matt Duncan, Stephens Inc.

Good morning, guys. First question I've got just on KIT organic sales trends. Can you talk a little bit about what that looked like through the quarter?

How is July looking? It looks like you guys are expecting that to continue to improve in the back half? Just want to get a feel for what the trend looks like year.

We did have a nice increase in trend through the quarter, Matt, with quite frankly a very strong June. July was still positive but slightly positive.

So a little bit of lumpiness as we have gone through each of our quarters. The good news is that it has gathered strength in each of the quarters -- excuse me, each month as we have gone through the quarter.

Okay. With the first go-live of the ERP install at KIT can you remind us what the timeline looks like on that project? When should that be completed and then maybe Rob, can you tell us how much extra depreciation kicks in with each of these go-live stages?

I'll take the first part of that. We have said from the outset, Matt, that it is going to be a relatively deliberate rollout. We have put about 10% of the business on it.

I believe that through the course of next year we will move to slightly over 50%. But it is going to be a multiyear rollout for us to assure that we take full advantage of the lessons learned by each successive go-live and also minimize any disruption that we would have to our customer base.

So we think that we have a good coherent plan put together for it. We were really pleased with the rollout that we experienced. Tremendous amount of work that went into it both across the IT organization and the operations organization and sales organization in distribution. And they are actually very encouraged with the speed with which we will be able to go forward.

Matt, let me go ahead and address your second part of your question. If you think about the project in total we are expecting to spend about $45 million on the ERP system of which about 75% will be capitalized initially. So to date we have spent $26 million of which about $22 million has been capitalized.

Starting in the second half of this year we will start recognizing depreciation on that. And really on a full run rate basis once we have fully expended the funds, which should be let's call it through the latter part of next year when we've finally finished a lot of the upfront spending you should expect somewhere in the range of about $3 million to $4 million of annual depreciation as it relates to ERP.

Okay. That helps. And then last thing for me and I'll let somebody else take over.

On aerospace sales obviously you guys are expecting a bigger fourth quarter there than third quarter. Can you give us a little help on the degree of the jump from 3Q to 4Q?

We can certainly do that. There will be an increase, roughly let's call it about give or take about a 10% or so increase fourth quarter relative to third quarter in top line at aerospace.

Okay. Very helpful. Thank you, Rob.

Eli Lustgarten, Longbow.

Good morning, everyone. Can we talk a little bit about B.W. Rogers? I think you said it had two months in this quarter of data?

Can you talk about what we can expect as we go through the second half of the year? Is demand improving at a slow rate, medium rate? Give some idea of what to expect out of that part of the business as it is becoming an important part of the quarterly results.

Eli, we were very pleased with the first two months contribution from B.W. Rogers. I believe in our last call when we were talking about them we said that we expected between $65 million and $70 million in sales through 2014.

I think that we feel very confident in that level of sales based on the initial performance. And as we commented in our prepared remarks, a great management team and great organization from top to bottom.

It's really come together very well. We could not be more pleased.

Let me understand the mathematics. You had $25 million in the quarter and that was two months, right?

No, Eli, the $25.6 million is really the three-month period. There are other acquisitions that comprise that number including B.W. Rogers.

Okay. So how much was B.W. Rogers of that?

Yes, it was about $19 million.

$19 million. So you're basically looking at the third and fourth quarter to be almost -- maybe only two months if you are going to do [6, 5, 7] to $25 million a quarter, or some number in that range which says that you are looking at a second-half rate that's a bit slower than the first, the rate in second quarter, maybe first half. That seems to be a little bit slower in the second half of the year on an industry -- on a demand basis, I'm not talking about performance, is that fair?

I think, Eli, certainly your math isn't certainly off. I think the fourth quarter typically in the late days in December are slightly less productive sales days relative to the second and third quarter.

That's been a trend that has certainly borne out across a number of years but I would say that following what Neal's comment is, we are very bullish on B.W. Rogers. We think that there's a lot of opportunity as we continue to integrate and identify other sale synergies to really be a little bit more positive than perhaps what your numbers may indicate.

And can we talk a little bit about organic sales growth? You were 3.1. You're indicating similar numbers as you look out, and I'm trying to put it in relationship to what we are hearing around from other distributors.

In the surveys we do show organic growth in the mid single digits for distributors, we had Fastenal today report 14.7 as a number. But I know there's a different business mix in different issues, but can you put in some context of what is going on because it seems that the organic growth is a little bit slower than I would've expected given the tone that we are hearing out of the distribution industry.

You know, Eli, I'll handle that. I think if you were to look over the last three quarters that our rate would compare quite favorably to our typical peers whether it's Motion, AIT, even putting DXP in that mix.

Plus or minus 100 basis points probably between us over that period of time. The other aspect is that our business is relatively more weighted towards some of the OEM markets today than either of our larger most direct competitors.

And as I said earlier, we have built some backlog in that business. It's actually been a little bit weaker but as we deliver that backlog in the second half of the year I think that that would also impact our relative organic growth rates.

You said it was a little weaker in July than June. Is that normal seasonality, or can you point to something that caused that little bit of weakness?

Eli, I think what Neal was referencing here is that in the OEM business it was a little bit weaker during the second quarter but during the second quarter we did build backlog which we expect to deliver on in the second half of the year. So you would expect our organic growth rates to reflect an increase as we convert the backlog into sales.

All right. Thank you.

Steve Levenson, Stifel.

Thanks. Good morning, everybody.

Neal, could you follow-up, you mentioned in one of your previous answers about the H-60 coming. Can you give us the details on how you think that might pick up?

Steve, as you know we are anticipating somewhere between 90 and 100 cockpits this year. Our expectation is that will probably be relatively flat over the next year or so. But what I was commenting on is that we have an additional -- we expect additional releases that would add to our backlog.

Okay.

We don't see growth there. I think that is consistent with what we have said over the last year or so. But we see a good foundation for us.

Okay. Thanks. Are you expecting to participate on the new Bell 525 program, that's a pretty big helicopter?

Actually, Steve, we can probably give some of the details. I was actually at Bell in Amarillo on Friday of last week and that's where they do a number of their product lines, the V-22, the AH-1Z, kind of close to our hearts and also the Relentless.

But we do have content through our specialty bearings product lines on the Relentless today. So I just don't have what that content is or what we hope to turn it into. But it's a great new product launch for them and we are excited to be part of it.

Great, thanks. Last one, is the 747 business a blessing or a curse given the small backlog right now and Boeing's, I guess the best word to use is difficulty in getting additional orders?

Well, you know Steve, I would say for us it's a blessing and for a couple of reasons. It's a good question.

First of all, we actually did the engineering for the wing-to-body fairing but we did that on contract for Boeing a couple of years ago -- several years ago. So we don't have a big investment in engineering on a build-to-print basis where we are amortizing that investment over a certain number of ships sets.

So I know as the rate has come down that has impacted a number of companies who have had to take program adjustments because the overall rate is lower. For us it is coming into an existing facility. We are using Boeing tooling and we will be building the subassemblies for it and the major structural assembly then will be completed in Jacksonville.

So for us it is incremental work into four of our facilities, existing facilities. We have not had to pay for tooling. That tooling has all been completed by Boeing.

We have not had to do any engineering other than the non-recurring engineering for process sheets and set up. So for us it really is incremental and we think it's good news for us. Certainly we would like to see Boeing more successful in marketing that aircraft so that our rates would go up but we are very comfortable at the current rates.

Got it. Thanks for the good additional color.

Bhupender Bohra, Jefferies.

Hey, good morning, guys. How are you? The first question on JPF, just wanted to get a sense of how that program is going to progress for the second half of this year in terms of units and mix?

Sure. For the year we are still expecting between 20,000 and 26,000 units. To date we've done a little over 11,000 units, Bhupender, mostly weighted towards US government and I think that trend will continue for the remainder of the year.

In terms of the mix we do expect a higher mix of direct commercial sales, or FMS, in the fourth quarter which is part of the reason why we expect our earnings to be weighted more towards the fourth quarter given the margin profile for DCS. But we are on track. I think we are going to have a very solid year as it relates to the Joint Programmable Fuze program.

Okay, that's good. Second, actually switching to distribution business, I believe Neal actually mentioned about a few end markets which were kind of positive in the quarter giving that 3% organic growth.

Just wanted to get a sense of which end markets kind of declined and where you saw negative growth, and July has been flattish or slightly positive. Are we still seeing strength on those end markets and where do we see the weakness?

Bhupender, it's really it's interesting because as we look at this sequential -- the markets that our top 10 end markets sequentially from the first quarter to the second quarter, actually 9 of the 10 were positive. And even on a year-on-year basis 7 were positive, 3 were down.

So we saw pretty broad-based strength in our end markets. It would be hard to pick out one that was deeply negative.

There's one area where we sell into the professional scientific and technical groups, mainly into labs and that was down slightly. But we were very strong in food, very strong in chemicals, very strong in paper and mining. So all in all in the major top 10 NAICS* Code markets, good strength across the board.

Okay. So is that -- if you see the same thing happen -- I don't know why July was that anything different from what you saw in the first three months in the second quarter?

July is really the only quarter that we have. We are just closing that month out to be frank, Bhupender. So we certainly haven't gotten to the point yet we're able to have the analysis down to end markets.

But if you remember also last year our performance began to strengthen in the third and fourth quarters of last year. So we are probably looking at a slightly more difficult comp. But again it's not atypical for our first quarter of the month to be weaker in distribution.

Okay, thanks a lot. Final question, I just wanted to get a sense of after B.W. Rogers, how does your M&A pipeline look and have you been -- is it strong or have you had any more due diligence?

Bhupender, we have a lot of opportunities. Right now in the fluid power area we expect that from both our perspective and Parker Hannifin's perspective that we will be focused on getting our fluid power platform totally integrated now with great companies like Catching FluidPower, B.W. Rogers, Northwest Hose.

We've got some great capabilities now. We really need to bring those businesses together. As you know, when you acquire businesses there's an integration but bringing that fluid power platform together now under the leadership of Tribby is really going to be our focus.

And we need to demonstrate the value now of this growing platform for us to ourselves, to our shareholders and to Parker Hannifin before we take the next big step there. But in our ACE platform, in our mechanical power transmission motion control area we still have a number of opportunities. But again as you know the timing of those varies based on how the owners, the current owners, feel at that point in time.

Okay. Thanks a lot.

Pete Skibitski, Drexel Hamilton.

Good morning. Guys, I guess one for Neal.

Have you guys finished your market study that was going to look at restarting K-MAX production for the forestry applications and other missions? And if not, what kind of timing are you thinking there?

We haven't. We are still evaluating that both based on meetings that were held at the recent Farnborough Airshow and also some visits that we've had recently from foreign potential customers. So I think it's probably going to be another couple of months before we will make a determination on that.

Okay, got it. And then your comment earlier about renegotiating the contract on some of the 777, 767 jogged my memory about this whole Boeing initiative on Partnering for Success. And so I'm just wondering, as you renegotiate these contracts do you suspect maybe there will be some incremental margin pressure just from Boeing's initiative?

Pete, we do expect that there will be some incremental margin pressures because of Boeing's Partnering for Success. As we look at that we really try to accomplish three things through those negotiations.

First of all of course is to limit the amount of concession that we have to make. That's where you start.

Number two is that I think that the aerospace team has done a good job in working with Boeing to be able to combine some of the cost reductions that we offer with additional volume. I think that the Boeing 747-8 is a very good example of that. I think that some of the effort that was done on procuring the 767 tanker also was indicative of that.

And third is that in the aerospace industry like a lot of other industries, Pete, cost pressure from customers is not atypical. It's kind of a fact of life and it's one of the reasons that we focus our teams so much on how we can implement new LEAN techniques to be able to continue to drive down our product cost.

It is also one of the reasons that we have opened or invested in opening new facilities in lower-cost areas like India and Mexico so that for some of our detail parts and smaller subassemblies that we are able to go to a lower-cost country for that. So I think it's a combination of things.

I think the team in aerospace has managed that, quite frankly, very well and it's not something that is new to us in the aerospace industry. New in that the level of discipline Boeing put in place was unlike what people had seen before. But I think that our guys have managed through that pretty well so far.

Got it, okay. So it's not a lose-lose type of proposition for you in terms of overall EBIT perhaps if you can gain the volume?

I think that's right, Pete. And the other thing is that we've got a little bit of a blessing of being a -- I don't mean to say a small company, but a relatively small company where we were not in the position where we had $3 million of content, or $2 million of content on a 737 or even a 747.

So our mix of programs is pretty broad and while we are very proud of the positions that we have on a number of programs they're certainly not the high-profile $3 million and $4 million per ship set positions that a number of other super Tier 1s or Tier 1s have. So the impact on us was relatively small.

Got it. Okay. And if I could ask one or two for Robert. Hey Robert, I guess maybe if you could let us know why you were able to lower your CapEx outlook for the year and then maybe just directionally how you are thinking about that spend in future years?

Sure, that's a good question, Pete. Really in taking a look at the revised projections for the remainder of the year, there are number of projects that were scheduled or slated for the fourth quarter that just based on timing could really kind of get pushed out most likely into the fourth quarter -- I'm sorry, the first quarter or so of next year.

And we also took a hard look at a number of the different expenditures to see if there was other ways to accomplish the end goal without having to expend. In terms of what we've talked about in the past is we are largely through on the CapEx side, the large infrastructure projects, that being here on the Bloomfield Campus as well as our new facilities in Germany and the UK. So certainly we would expect to see CapEx come down off the $40 million level and you are starting to see that, to what would be a more normalized level based on our current size of let's call it in the 30 to 35 type range.

Okay, got it. And then last one, I just wonder how much risk should we think about on AH-1Z coming in on the timing you expect in the fourth quarter?

It sounds like you are in the endgame there, sort of. But I know sometimes dotting the Is, crossing the Ts can be an issue. So just was wondering about how you guys see the level of risk there.

Pete, there's always some risk. I think that you are right, it comes down to dotting the Is and crossing the Ts. We feel good about a coming in the fourth quarter, hence that's why we've got it in our outlook.

It's also one where we know it's going to come. Even if it were to shift out of the fourth quarter it would be the first quarter of 2015. But we are pretty confident based on where we are right now that we should recognize those sales in the fourth quarter.

Okay. Thanks, guys.

(Operator Instructions). Jeff Hammond, KeyBanc Capital Markets.

Hey, guys. Just a quick follow-up on free cash flow. Good to see it moving up.

What's the timing where you start to see some of these working capital tied up and some of this aerostructures drop through to the cash flow? And where do we kind of peak out our cash flow generation from the SH-2 program?

That's a good question, Jeff. We are starting to see some reduction in inventory levels on a number of our different aerostructures programs. In particular Sh-2, A10 is turning inventory at a better level, so we are starting to see that.

Clearly we do have a fairly high level of inventory as it relates to AH-1Z. But we are shipping product and receiving cash flow from Bell for the shipments. So we are starting to see a stabilization, if you will, in relative terms as it relates to that program.

Relating to SH-2, certainly we talked about generating over the life of the program, $60 million to $65 million of net cash to command, and that will certainly happen over let's call it the next 12-plus months. We expect to see the majority of that cash come in. We do expect there are a couple of milestones with initial deliveries in the fourth quarter which will have a large impact on cash flow certainly in the fourth quarter as we move through the year.

Okay, great. And just back on M&A, I think you talked pretty broadly on distribution. Can you just tell us what you are seeing on the aerospace side of the business?

Sure, Jeff. On the aerospace side as has been the case for the last couple of years now, there is very high values attributed to commercial aerostructures properties and as we have said I think they're kind of priced for perfection. We have seen perfection and no, it doesn't last all that long.

Also we would like to see -- going back to the question that Pete had -- we would like to see how PFS runs through a number of those target companies to make sure that we are competent, that we understand the full impact of that on their financials. So on the aerostructures side I would have to say a little cautious given the environment. We continue to be very active in looking for bearing companies that would enable us to expand our technology perhaps into adjacent markets, or to broaden our portfolio in the aerospace industry.

Hard to find. The guys have worked hard. We've had a number of opportunities but they haven't yet been the right one for us.

So I think that that's how we're looking at aerospace right now. We would certainly like to be able to do a transaction in the bearing area but just haven't found the right one yet.

Thanks, guys.

Pete Skibitski, Drexel Hamilton.

Yes, Rob. You touched on the transaction costs in the quarter for BW and I am guessing they all flew through corporate -- flowed through corporate -- can you put a fine point on that? Was it $1.5 million or so and then I know typically you have some one-time expenses associated with inventory write-ups and just wondered if you could quantify that for us also?

Certainly, Pete, we talked about it in our last call about $1.5 million of transaction expenses relating to B.W. Rogers. We remain on track for that.

Those should be largely behind us. There will probably be some level of that moving through the remainder of the year but the majority of it is behind us.

In terms of the inventory, we did experience inventory write-off, if you will. So was it that portion of that material, no, but it certainly had some impact in the quarter. As you would expect that can also be largely behind us as we move through the year inventory-wise.

Okay. And then the ongoing Mexico issue, is there a time frame when we would expect that to roll off and should that be a bit of a margin tailwind when it does?

Yes, well certainly we would expect it going forward to be not as detrimental on the margin perspective as it has been. And as we have talked about in the Q, we did incur some more charges as it related to our contracts. And that was really relating to a change in position on the part of one of our customers relating to a settlement agreement that we had reached.

So we took the step up just accrued for that just given the change in the customer position. But we feel very good about the prospect for that business. And we have a new management team down there that is focused on driving improved results.

Okay, got it. Thank you, guys.

Thank you. I would now like to hand the call over to Mr. Eric Remington for closing remarks.

Thank you, Sonja. Before we sign off today I would like to announce that we will be holding an Investor Day on September 18 in New York. Details are available on our website and you should feel free to contact me with questions.

We hope to see you there. And thank you for joining us today.

Thank you for your participation in today's conference. This concludes the presentation.

You may now disconnect. Good day.