Kennametal Inc (KMT) 2007 Q3 法說會逐字稿

Good morning.

My name is Constance.

I'll be your conference operator today.

At this time I would like to welcome everyone to the Kennametal third quarter fiscal 2007 earnings conference call.

All lines have been placed on mute to prevent any background noise.

After the speaker's remarks there will be a question and answer session.

(Operator instructions) I would like to turn the call over to Marty Bailey manager of global financial reporting.

You may begin your conference.

Thank you, Constance.

Welcome everyone.

Thank you for joining us today to review Kennametal's third quarter fiscal 2007 results and our outlook for the remainder of the fiscal year.

We issued our quarterly earnings press release earlier today.

You may access this press release via our website at www.Kennametal.com.

Consistent with our practice and prior quarterly conference calls, we have invited members of the media to listen to this call.

It is also being broadcast live on our website where the replay will be archived for 10 business days for your convenience.

I am Marty Bailey, Manager of Global Financial Reporting for Kennametal.

Wayne Moser our Vice President Finance and Corporate Controller and Quynh McGuire, our Director of Investor Relations are in our Latrobe, PA headquarters and will be available for follow up questions after this call.

Joining me for our call today, our President and Chief Executive Officer Carlos Cardoso and Vice President and Chief Financial Officer Frank Simpkins.

Carlos and Frank will provide details on the fiscal third quarter's operating and financial performance, as well as our outlook for the remainder of the fiscal year.

After their remarks we will welcome your questions.

At this time, I would like to direct your attention to our forward looking disclosure statement.

The discussion we will have today contains comments that may constitute forward looking statements as defined under the Private Securities Litigation Reform Act of 1995.

Such forward looking statements involve a number of assumptions, risks and uncertainties that could cause the company's actual results, performance or achievements to differ materially from those expressed in or implied by such forward looking statements.

Additional information regarding these risk factors and uncertainties is detailed in Kennametal's filings with the Securities and Exchange Commission.

In addition, Kennametal has provided the SEC with a Form 8 K, a copy of which is currently available on our website.

This enables us to discuss non GAAP financial measures during this call in accordance with SEC regulation G.

This 8 K presents GAAP financial measures that we believe are most directly comparable to those non GAAP financial measures and it provides a reconciliation of those measures as well.

I'll now turn the call over to Carlos.

Thank you, Marty and good morning to those of you joining us from North America.

Good afternoon to our European audience and good evening to everyone in Asia Pacific.

We are currently in China where our board of directors and senior management team had just completed an in depth review of our recently opened Tianjin manufacturing facility.

At this moment, we are in Shanghai visiting the operations here.

The fact that we are here in China with our board is a further indication of just how global a company Kennametal has become.

Over the past several years we have moved swiftly along the path of balancing our business.

This strategy provides us with many benefits.

From the products we offer it to the markets we serve to the countries in which we operate within our increasingly global footprints.

For Kennametal expanding our global presence allows us to serve our customers better.

We can partner with them in ways that many of our competitors cannot.

And as a key part of this, we are operating and developing economies that offer a tremendous growth potential.

This gives us more opportunity to benefit from the strength of the local and fast growing markets.

We have made key infrastructure investments and we are well positioned to benefit from further growth in the developing economies.

Expanding worldwide in a measured way provides further opportunity to lessen risks from any one geographic region.

Our goal remains to generate revenues in equal thirds from North America, Western Europe and developing economies around the world.

By fiscal year end 2007, we'll have made even further progress towards that goal.

Let me now comment briefly on our third quarter performance.

I'm pleased to report that sales, operating income, earnings per share, recurring invested capital and cash flow were all on track.

Our earnings per share were an all time record.

Our return on investment capital was a March quarter record.

As a reminder, this strong performance is on top of tough comparisons from previous year.

Those achievements were made in spite of a tough market environment in the North American economy.

Our metalworking business, MSSG, reported solid results and continues to improve its competitive market position while our advanced materials business, AMSG, demonstrated another quarter of strong performance.

We are continually building a global presence for AMSG, a goal that will strengthen our business profile in a highly fragmented market.

The Kennametal team was again exceptionally busy during the fiscal third quarter, acquiring and integrating business that provided an opportunity to leverage our global, geographic mix and customer base.

In doing so, we continuously applied the disciplined approach inherent in Kennametal's value business system or KVBS.

Those processes effectively guide and ensure the successful execution of our growth strategy.

We closed on the acquisition of Federal signal's cutting tool business.

Frank and I along with the members of the metalworking leadership team recently made another visit to several of these facilities.

And we are enthusiastic about the potential of this business.

We are especially pleased with how well it complements our metal cutting range and enables us to better serve our customers globally.

We are in the process of acquiring the remaining ownership interest in our Spanish affiliate Kenci.

This transaction will allow us to further serve our metalworking customers in the growing Spanish and Portuguese markets and it is expected to close by the next few weeks.

Finally, we announced the acquisition of Purity Metal Holdings and its subsidiary, International Specialty Alloys.

ISA manufactures specialty metal products for the aerospace, defense and super alloy industries and this acquisition complements our advanced materials portfolio of products.

During the quarter, we continue to generate strong cash flow which fuels our ability to continue investing in our business and make strategic acquisitions as well as opportunistically verses our stock.

Those collective actions provide us with additional ways to increase shareholder value.

We continue to manage the business in a highly effective way as reflected in lower costs, improved efficiencies, expanded operating margins.

As a case in point, operating expenses were again lower year over year and sequentially.

We reduced operating expenses by 150 basis points from last year.

We also continue to operate our manufacturing structure more effectively.

As a result, operating income increased year over year both in amount and as a percentage of sales.

Going forward, we continue to be focused on developing new technologies and products to grow our core business and penetrate new markets.

In addition, our channel and branding strategies proceeding according to plan and it is increasing the quality of our coverage in the marketplace for Kennametal products through our distribution partners.

We continue to express strong demand for Kennametal products through our value proposition of engineering our customers' competitive edge.

Our favorable business mix, geographic balance and end-market (inaudible) positions well to deliver continued top line growth, ongoing margin expansion and strong pre operating cash flow.

I will now turn the call over to Frank so we can discuss our results in greater detail.

Thank you, Carlos and hello everyone.

I'll provide further comments on our performance for the March quarter and I'll move on to the outlook for the remainder of the fiscal year.

Overall, we had another good quarter in terms of growth, operating income expansion, including operating expense reduction and strong cash flow generation.

Our management team is pleased with our performance.

Our remaining comments will exclude the impact the prior year special items for the March quarter.

As a reminder of those items consisted of an $8 million loss on the divestiture of our U.K.

high speed steel business Presto, of which $7.4 million was included in cost of goods sold; a $5 million goodwill impairment charge related to our divestiture of our consumer's products group that is now presented and discontinued operations.

And the J&L transaction related charge of $2 million.

There are no special items in the current year quarter.

Please refer to the reconciliation schedules provided in our earnings release and related 8 K.

To summarize the quarter, reported diluted earnings per share for the third quarter of fiscal 2007 were $1.32.

This represents a 13% increase over last year.

Now let me walk you through the key items of our continuing operations in the income statement.

For the March quarter, consolidated sales were $616 million, compared with $609 million in the same quarter last year.

Our sales grew 7% on an organic basis and also at 3% for favorable foreign exchange.

This growth was mostly offset by the net impact of acquisitions and divestitures of 9%, primarily the divestiture of J&L.

And last year J&L sales were $74 million in the March quarter.

The 7% organic sales growth is consistent with our prior guidance of 6% to 8% organic growth and represents the 41st consecutive month of organic growth.

Turning to our margin, our gross profit margin was 35.9% compared with 35.1% last year and 34.8% last quarter.

If you exclude the special charge for the press divestitures last year, our margin would be down slightly from the 36.4%.

The primary driver for the change is higher raw material costs, ramp up costs associated with recently constructed plants in China and Brazil and the completion of the Mexico plant closure which we discussed in the December quarter.

We had anticipated that raw material costs would be lower in the quarter, but that did not materialize as anticipated.

If you exclude these items our margins would have been consistent with the prior year.

Operating expense during the quarter decreased 6% or $9 million to $137 million adjustment for the J&L special charge last year, operating expenses decreased 5% or about $7 million.

The reduction is due primarily to the net impact of acquisitions and divestitures and lower employment costs, partly offset by unfavorable foreign exchange of small.

Operating expense as a percent of sales decreased 150 basis points to 22.2% from 23.7% in the prior year quarter.

The March quarter represents the fifth consecutive quarter of year over year improvement as a percent of sales.

As we mentioned in our annual report, we are reviewing enhancing our marketing strategies related to all our brands.

During the March quarter we completed our strategic analysis and plan for our Widia brand.

As a key element of our channel and brand strategy we'll leverage the strength of this brand to accelerate growth in the distribution market.

Since demand in the distribution market is mostly for standard products, and to further our relationship with our Widia distributors, we intend to methodically migrate direct sales of Widia custom solutions products to the Kennametal brand.

As a result of this, we recorded a related impairment charge of $6 million which is included in our operating income for the quarter.

Our amortization expense increased $400,000 to $2 million in the current quarter due primarily to acquisitions.

Our operating income was $76 million for the quarter and that's including the $6 million Widia impairment charge.

This represents an increase of $10 million or 15% from $66 million in the prior year quarter despite the divestiture of J&L and the impairment charge.

J&L contributed $9 million in operating income in the prior year quarter.

Operating income for the current quarter was level with the prior year adjusted amounts.

Our other income increased $2 million from the prior year quarter, a result of lower accounts receivables securitization fees and favorable foreign currency effects.

Our interest expense was $7 million that was down 11% from last year's comparable quarter.

Our average domestic borrowance was lowered by $140 million, offset by interest rate on domestic borrowance of 7% compared with 5.7% last year.

As reported the effective tax rate for the quarter was 26% compared with 34% in the prior year quarter.

The current year rate benefited from increasing earnings from our Pan European business strategy while the prior year rate was impacted by special charges that did not have a tax benefit.

An EPS impact of the lower than assumed effective tax rate and the Widia impairment charges essentially offset each other in the March quarter.

Our balance sheet and cash flow continue to be strong.

I'm pleased to note that our adjusted return on invested capital increased 30 basis points to 11% from 10.7% in the prior year which is a March quarter record for the company.

Our cash and cash equivalence finished the quarter and $94 million.

That's down $140 million from June 30th primarily due to acquisition activity, share repurchases and tax payments related to the J&L sale in the America jobs creation act.

Our primary working capital was $661 million, an increase of $64 million from $597 million at June 30th.

Recent acquisitions accounted for $25 million or 40% of that increase.

The increase was attributable to higher inventory, accounts receivable, offset by higher accounts payable.

Our cash flow from operations was $113 million for the first nine months of the fiscal year, compared with $117 million in the prior year.

Free operating cash flow was $47 million in the current period and that compares with $70 million in the prior period.

Included in the current year period free operating cash flow were income tax payments of $86 million, primarily due to the gain on the sale of J&L and cash that we repatriated under the 2006 America jobs creation act.

Adjusted free operating cash flow excluding the effects of these income tax payments was $133 million versus $69 million in the prior year period, reaffirming our ability to generate very strong cash flow.

During the first nine months, we invested $144 million for three business acquisitions; Syntec and Camco for AMSG and the Federal Signal cutting tool business for MSSG.

We also received cash proceeds of $10 million from the divestiture of J&L and $24 million on the MSSG divestiture of CPG or the consumer products group.

Our capital spending during the period was $67 million versus $49 million in the last period.

In terms of acquisitions, we expect the purity metal acquisition and the acquisition of our remaining interest in our Spanish affiliate Kenci that closed during the fiscal 2007 fourth quarter.

During the March quarter we repurchased and additional 136,000 shares at a cost of $8 million under our 3.3 million share repurchase program.

This brings our total repurchases under the program for the first nine months to 567,000 shares at a total cost of $33 million.

We expect our share count to remain flat for the remainder of the fiscal year at 39.2 million.

Additionally, our board of directors also declared a regular quarterly dividend of $0.21 per share.

Turning to the business units and all sales will be on organic basis which as a reminder reflect constant currency and adjust for the impact of acquisitions and divestitures.

From a geographic perspective, the North American market continued to show flat to modest growth which has been reflected in the ISM index.

However, this market softness was offset by favorable business conditions in Europe, strong economic growth in the rest of the world markets like India and China.

For our addressable end markets we continue to see growth in many sectors including aerospace, energy, mining and general engineering.

However, we also saw weaknesses in certain sectors such as auto, trucks, off road and road construction as we had expected.

It's worthwhile to note that the markets we serve are increasingly diversified and we're not dependent on any single segment.

Also our top line growth for the quarter was balanced between MSSG and AMSG.

This is a stepping stone in our strategy to balance our portfolio between MSSG and AMSG while continuing to grow results in both units.

MSSG continues to deliver top line growth in the quarter led by year over year expansion and the distribution, general engineering and MTI markets and from the effective acquisition.

As I said earlier the European market continues to be favorable.

Asia Pac and India delivered double digit growth while the North American market showed flat to modest growth.

In the March quarter MSSG sales were up 7% on an organic basis.

Europe was up 8%.

Asia Pacific and India sales grew 22% and 25% respectively and North America sales were up 2%.

MSSG's operating income was higher by 23% and the operating margin 15% increase over the same period last year.

The current quarter results benefited from top line growth and ongoing cost containment and included the non cash Widia impairment charge of $6 million.

The prior year quarter includes the divestiture related charges of $8 million.

Turning to AMSG, AMSG also continued to deliver top line growth in the March quarter driven by favorable international market conditions and the effect of acquisitions.

Strong growth in the energy and mining markets continue to contribute to AMSG results.

AMSG sales grew 6% on an organic basis.

Energy product sales were up 18% mining construction products sales were up higher by 4% and EPG increased 4%.

AMSG's operating income and margin were lower than the prior year due primarily to higher raw material costs in the current quarter partly offset by the effects of acquisition and new product introductions.

Now let's look ahead to the fourth quarter of fiscal 2007.

Worldwide market conditions support our expectations of continued top line growth during the fourth quarter of fiscal 2007.

Based on global economic indicators, we believe the moderation in the North American market will persist in the near term.

We also believe that the European market will continue to be favorable and that business conditions will continue to be strong in developing economies.

While there remain some uncertainties and risks related to the macro economic environment, fundamental drivers for global demand appear to be stable.

We anticipate many of our end markets will continue to operate at favorable levels for the remainder of the fiscal year with moderating growth rates from some regions in market sectors.

This supports our projection of 6% to 7% organic sales growth for the fourth quarter of fiscal 2007.

That would provide organic growth in the 6% to 7% range for the full fiscal year which would extend our track record of consistently outpacing worldwide industrial production rates by two to three times.

We expect fourth quarter EPS to be in the range of $1.45 to $1.50.

Our guidance for adjusted earnings per share for the full fiscal year remains at $4.45 to $4.50.

On a comparable basis the fiscal 2007 guidance midpoint represents a 31% growth rate, a substantial increase over prior year adjusted earnings per share from continuing operations of $3.41.

We expect to achieve our 12% EBIT margin and return on invested capital for the projected 11% to 12% range for the full fiscal year.

As we move forward we will maintain a strong focus on our balance sheet and cash flow generation.

We anticipate reported cash flow from operations of $190 million to $200 million for fiscal 2007.

Based on anticipated capital expenditures of $90 million, we expect to generate between $100 to $110 million of free operating cash flow for fiscal 2007.

Included in this amount are income tax payments of $86 million as previously mentioned.

Adjusted free operating cash flow is expected to be approximately $185 million to $195 million.

At this time I'm going to turn it back over to Carlos for some closing comments.

Thank you, Frank.

In summary, we expect to benefit from our strong operating leverage and cost control initiatives which are the key drivers of our ability to deliver on our commitments of earnings per share, margins and in invested capital.

At the same time we'll continue to invest in our business, reduce our cost structure to SG&A initiatives and streamline our manufacturing operations.

All those efforts will position Kennametal well for the future.

Meanwhile, I strongly believe that Kennametal has the infrastructure we need to continue success.

We are confident that we can achieve our goal of 12% EBIT margin and 11% to 12% return on investment capital for fiscal year 2007.

For the longer term, we are on track for the next milestone of 15% EBIT margin and 15% return on invested capital for fiscal year 2009.

Moving forward, we'll continue to prioritize our deployment of cash specifically to actions that increase shareholder value.

Those may include acquiring companies that fit strategically into our advanced material segment with some potential for [bolt-ons] for metalworking business.

We'll evaluate those acquisitions, as we always do, be applying and systematically executing the disciplines and values of KVBS, the management system that is our company's foundation.

Thank you for listening to this call today.

We'll be happy to take your questions now.

(Operator instructions).

We'll pause for just a moment to compile the Q&A roster.

The first question comes from Walt Liptak of Barrington.

Hi, thanks.

Good morning.

Congratulations on a great quarter.

My first question is on the tax rate.

What tax rate are you using for your fiscal fourth quarter?

For the full year it should be between 30 to 31, so we're using 31 to 32 in the fourth quarter.

Okay.

Great.

Thanks for that.

And SG&A expense, your corporate expenses looked really good.

What's the fourth quarter look like and what is an annualized run rate?

I think as a percent of sales as we talk we continue to try and drive down over the long term as we said towards 20, but I think we should be progressing in this range as we go forward.

It all depends on the top line and what kind of programs we have in place in the fourth quarter, but we should be continuing along this track in the 22% to 23% range as we go forward.

Okay.

For the corporate expenses, would we expect that to be running in the $16.5 million per quarter or is there some variability to that?

There's always a little variability, but I think we've got a pretty good handle on that as we go forward.

Okay.

Perfect.

And then if I could just ask for an update on tungsten prices and product pricing.

You mentioned especially in AMSG a little bit of margin squeeze.

Where are you with that?

Tungsten prices are overall flat and they've been trending that way consistently for most of the fiscal year.

That was one component of the margin drivers but this other raw materials, steel and some energy costs across the board.

But tungsten has been relatively flat for the past six to nine months.

Okay.

Is there more strategic pricing that's gone in place to try and offset some of the steel and energy costs?

Walt, we're looking at as we speak.

Again, this is an event of the third quarter so we need to see look forward what's happening with the raw materials.

Okay.

And just a final one on the Widia phase out of the brand.

Is there any cost benefit to phasing that out?

Walt, we're not phasing out the brand.

Think about Widia as a distribution 100% but with standard products and customized solutions.

What we did is we actually increased the products going to distribution with the Widia brands, but we're taking the specials, the Widia specials, and we are now selling that to the direct channel where we can get more value and we can get higher margin through that direct channel.

This way we will not be competing with other distributors direct and indirect.

We'll continue to look at strengthening the Widia brand because that is our strategy, but that brand is going to distribution and specials don't really leave themselves to distribution.

Okay.

I understand.

Thanks.

I'll get back in queue.

Your next question comes from Mark Koznarek of Cleveland Research.

Hi.

Good day to everybody.

Hi, Mark.

Just a quick question to start off with.

What was the contribution of foreign exchange to earnings per share in the quarter?

It was nothing significant, Mark.

It was less than a nickel.

That would have been on the positive side, Frank?

Yes.

Given where the Euro has been trending.

Okay.

The question I had here had to do the North American metalworking performance up 2% with the underlying industrial production and kind of lackluster here.

It suggests that your distribution strategy is carrying the ball.

I'm wondering if you can give us a little bit more color on how that -- the momentum is developing there.

I guess my question would be your direct business alone, would that have also been up 2% or is all of this growth due to the distribution expansion initiatives?

Mark, the areas that are driving distribution is doing exactly what we said in our strategy.

It is really out of all the segments in North America the highest growth segment, but we've had general engineering is also growing and the machine tool business is also growing for us.

The only area in the metalworking area that has shown a decline in North America was really the auto market segments.

So, it's not 100% driven by distribution, distribution being a major element of that, but we have other areas in North America that are growing at above the 2%.

You're saying, Carlos, absent distribution initiative you still would have shown a little bit of growth or perhaps flat performance in North America?

Exactly.

Then to follow on to that, I know part of the distribution I guess it's two pronged in that some of it is third party distributors on the ground, integrators or folks like that and then also you've got a catalog initiative.

In terms of the first element, the third party distributors, have you fully completed your authorization geographically, do you have all the pieces in place now?

Or is there still growth to occur by opening up other regions within North America to third party distribution?

No, Mark.

We're still in the implementation of planning at this point.

We still have run away in all geographic areas for additional distribution or rationalization of distribution.

Okay.

So there's still some supplement to growth that will occur just by continuing to build out that part of the distribution initiative?

Yes.

Okay.

Great.

Thank you.

Your next question comes from Andrew Casey of Wachovia Securities.

Good evening, I guess over there.

Morning.

How are you doing, Andrew?

I'm doing fine, Carlos.

It's exactly 10:35 p.m.

I'll have a beer after this, I guess.

-- or two.

In MSSG in the quarter, on the margin performance, is that where most of the manufacturing footprint change happened and if so, can you help us understand the impact?

Was it the full $0.03 you're looking for?

We basically wrapped up the you're referring to the Pachuca manufacturing.

The cost came in essentially right on what we had benefited and we should get the benefit sequentially in Q4 as we had originally assumed.

Okay.

Thanks.

And on that Q4 guidance, are you looking at any further restructuring to reduce the footprint or would that be potentially future period?

Everything as I always continue to talk about, everything has to do with all the elements that we see in the top line and so forth.

We make those decisions on an ongoing basis.

Okay.

And then I guess, back on one of Walt's questions, I think you answered the tax rate for Q4 at 31 to 32?

Is that right?

Right.

Can you help me understand why the Pan European strategy wouldn't carry through from 3Q into 4Q?

That's a good question.

We had a stronger earnings contribution from Europe.

I expect the mix of business to be stronger domestically then internationally in the fourth quarter.

There's a lot more holidays in the fourth quarter in Europe than there is in other parts of our tax and jurisdiction.

So I expect that to have a play in the fourth quarter.

And then at year end when we go through the audit I always want to make sure that we don't miss anything, so that's why I put the range at 31 to 32, but it's primarily the mix between domestic and our international and we had a very, very strong as you saw European contribution in the quarter which helped drive the tax rate.

Okay.

Thank you very much.

Your next question comes from Eli Lustgarten of Longbow Securities.

Good Morning.

Hey, Eli.

How are you doing, Eli?

I hope you're enjoying China.

A quick question.

We just had a clarification on the tax break European had more benefits and I'm not sure you expect strong domestic in the fourth quarter.

Can we talk about fiscal '08?

Does the tax rate continue to dip down next year; your fiscal year ends in June.

Are we looking below 30 or 31% in '08 or the same number?

It's tough.

When I ask our director of tax I get a lecture myself.

It's tough to really predict where the earnings are going to come from by jurisdiction.

Based upon the structure, I'd expect us to do better than how we finished the first half of the fiscal year going into '08.

And right now given our June 30 year end we're going through the planning process at just a little bit premature to try and give a number for '08.

The tax rate won't be any higher, it could be lower than what '07 turned out to be, is that what you're saying?

Yes.

Until I get a little bit more into the plan, Eli, we are expecting continued benefits from the structure though.

That's all I'll say.

Okay.

Let's go back and talk a little bit about margins in the various sectors.

Metalworking adjusted is relatively close but there's a big drop in margins in advanced materials group verses history, and you're at 16 instead of 18/19.

Can you give us better insight, I guess its more Cobalt that hit you in this quarter.

What's doing it?

The guidance in fourth the quarter said they don't change very much.

At least that would be the implication mathematically.

Can you give us some idea of when we would start to see profitability in the advanced materials maybe return to what we think is normal range than the 18/19% rather than 16% level or there is a new norm for that?

I don't think there's Carlos can add on to this but your spot on with the Cobalt.

It's not a significant contributor, but as you know the price of that also know has doubled in addition to some of the cost in the steel arena.

As we're talking today, we're looking at pricing, especially in some of the more material content businesses.

The other thing is Cobalt varies a lot more than the other materials that we have.

As you know when we have the increase on the tungsten we went in the advanced materials business we went with a very aggressive pricing as a result of the tungsten.

We are looking at the Cobalt very closely because we don't want to go out immediately with the price increase and then Cobalt coming down and having a negative impact from a market share perspective.

Is that the thing that's limiting profitability and advanced materials going back to the high teens or is something else structurally going on?

No, no we anticipate that business to be at those levels of margins and we have in the advanced materials business in particular that what I consider to be a short term blip on the raw materials.

Corporate elimination took a big drop with 16.6 in the segment data down from 26.

I realize that's a lot to stuff in there, but is that a new run rate?

It's much lower than we've seen all year.

Or is that a one shot deal when you go back to the low 20s in the fourth quarter for the next year?

I wouldn't say we're at that run rate yet but we're working toward that, Eli.

It will probably be a little bit higher in the fourth quarter.

If you're taking 16.6 and whatever it is, the 35 for the half or something like that, would that be the run rate for next year that we look at; 35, 40 or something like that as opposed to the

That's very preliminary.

As I said, we're just trying to get into the '08 data.

We're going to '09 soon.

Thank you.

Thank you, Eli.

Your next question comes from Steve Barger of KeyBanc Capital Markets.

Good morning.

Hey, Steve.

How are you doing, Steve?

I'm good.

I just have a follow up to that last question about AMSG performance.

Given the good conditions in Europe, China and India and your efforts to penetrate those higher margin AMSG products into the higher growth global customers, I guess I expected just better top line performance from AMSG as well.

Can you talk about where seeing some of the challenges regionally?

Yes.

One of the weak areas was the construction for us and mining was flat.

The other elements of the business was doing well.

We still, from the AMSG point of view, we're still U.S.

centric.

We need to do a lot of work.

We continue to move every quarter, but the construction area, the road rehabilitation has been with the soft winters and so forth has been the major challenge for us.

Okay.

Thanks.

The new AMSG acquisition that you did, how are the margins there relative to corporate to AMSG in general.

What's the opportunity to leverage some of that product line through the distribution channel?

If there is one?

To address your first question, our strategy is that every acquisition is created to our margins within 12 months.

The margins in that business are better than the current business, AMSG business.

That will not go to our distribution channel.

It's a very high tech sale, it's a high value sale and it has to be done directly.

Okay.

Just one other.

As your margin expansion story plays out and given where you are on the balance sheet right now, how large of an acquisition would you look at?

Are you changing your thinking relative to what you might try and absorb?

No.

Our acquisition strategy will be the same.

Our goal is to do about $150 million of sales acquisition per year.

We are on track to do that for FY07.

Obviously, if we can get one business, that one acquisition that has $150 million of sales, we would.

Typically, as I commented in the past, this business has a tendency to be small niche high tech business that we are after.

Thanks, gentleman.

We have the capacity to do more, obviously, but $150 million is a good goal for us right now.

All right.

Thanks.

Your next question comes from Dana Walker of Kalmar Investments.

I'm not even going to try to get the good morning/good evening right, but Hi there.

Hi, Dana.

How are you?

I'm doing well.

Nice to hear your voices.

In that your March reported orders seemed to reflect some acceleration as the quarter went on, what does that foretell about your Q4 experience if anything?

You know, our backlog because the orders did come in stronger on the last month increased slightly, but typically we turn over those orders within a few weeks, a couple weeks.

It doesn't have a big impact into the fourth quarter; however, our fourth quarter is traditionally the best quarter that we have.

Did that order pacing, though suggest an improved tone which might as well pan out in April order activity and beyond?

You know, it's difficult to say but what happened is in January we had an unusually low month.

Last month we had an unusually high month.

This is where one of the challenges that we have had in the last actually 18 months is that throughout the quarter we see this seesaw; high and low, high and low.

It's really hard to predict, but again, our guidance at this point reflect a fairly strong quarter, fourth quarter.

If your AMSG business in the construction market primarily road was weak because of the absence of snow fall, I presume that since one doesn't expect snowplow blades to be driving business in April, May and June, that you're construction business ought to be better?

Yes.

What happens is that the blades drive our construction business in the winter and then road rehabilitation kind of takes over for the blades.

The road rehabilitation is starting right now.

It's too soon for us to know how that road rehabilitation is going to come in, but we'll know in the next three to four weeks.

Frank, you talked about the charge that was taken as well as the benefit from the tax rate.

What should be the effective tax rate used on that charge?

I would use the low 30's I mean, sorry, the statutory rate in between 35 and 40, in that range.

Very well.

How would this most recent acquisition of Purity.

How expansible is that business aside from the fact that it offers a unique product and service.

Why did you do this transaction?

This falls within the strategy of the business and all the advanced materials business is again a niche market.

It serves a niche market.

Very high tech and high value to our customers.

Therefore, obviously, as a result brings a high margin because of the value.

That business has the opportunity of growing tremendously because of Kennametal as a whole company.

That business was very focused on one or two customers and very focused on one or two materials.

Our goal is to take that business into more customers and to take that business into different materials the same application process, different materials and then to globalize it.

Final question from me.

Carlos, you seemed to be indicating that the Cobalt and the steel factors that weighed on your profit in Q3 that you don't expect that to be a recurring issue in Q4?

It's hard to tell at this point, but we feel comfortable with where we are right now with Q4.

Thank you for your comments.

Thank you.

Thank you for calling.

Your next question is a follow up from Mark Koznarek of Cleveland Research.

Thanks.

Hi, Mark.

Hello.

This question has to do with the mining and construction.

I'm just a little unclear.

It was 4% for the quarter and construction was down because of the snow plow issue so therefore mining was up.

Is that how it settles out?

Yes.

Mark, as Carlos said the international markets were stronger than domestic as well.

We saw a nice growth throughout the world.

And where the weakness was it was predominantly North American based.

Okay.

Any specific outlook on the mining side for 4Q?

More of the same or do you see any kind of change?

We see more of the same in the mining.

Okay.

Another clarification here on the AMSG margin question being at 16% instead of 18% or 19 %.

Is any element of that purchase accounting adjustments because of the acquisitions?

When you say you've got a goal to get back to this 18 or 19%, is that on an as reported basis, so even including the charges associated with ongoing acquisitions in that segment?

Yes.

As far as there was no real impact to date, Mark, from the AMSG acquisition because Syntex already started at the beginning of the fiscal year.

The [Campco] acquisition was in the first quarter and depending on the timing, there could be some impact but what we'll basically do a with and without to give you the profitability, but these acquisitions respectively will be added.

I'm sorry added on a reported basis?

Right.

So even with any purchase accounting?

I will separate that for you.

I'm sorry.

So if it's significant, you'll tell us?

Exactly.

Got it.

Thank you.

Your next question is from Walt Liptak of Barrington.

Hi.

Thanks.

Before we let you go for a beer, Carlos and Frank, I wonder if we could just get an update on how things are going in China.

What was the review intention, maybe some details about the size of the plan, the revenue, the growth rate, products, profitability etc.?

All I can tell you is the board obviously saw their investment for the first time and they were very excited and very pleased and to be honest with you they were so pleased they want me to invest more in the region.

But the growth here as a whole; so the new plant is on plan, is exactly where we thought we were going to be.

We're very pleased with that.

Our growth in this area is above 20%.

We continue to be extremely excited about this region.

They just had a machine tool builder show here two weeks ago and they had something like 150,000 attendants at the show.

We did not have enough room to host everyone that wanted to spend time with us; very, very exciting times here in China.

Are some of your competitors in China as well at that show?

yes.

This is a worldwide show.

Okay.

Let me put it this way, we're extremely pleased with the attendance at our booth versus everybody else's.

Okay.

Thanks.

Your next question comes from Glenn Primack of Broadview.

My question has been answered, thanks.

Your next question is a follow up from Andrew Casey of Wachovia Securities.

Hi again.

Follow up, kind of flipping Mark Koznarek's question on AMSG over to MSSG.

Can you kind of update us on the status on the impact of Federal Signal acquisition and how that's going; when you think it will turn if it hasn't already?

Andy, we've had it for two months.

I think Carlos highlighted the key points.

After two months, it's rounding but it was slightly creative to the overall operating margin of the company after two months and we're just really getting started.

We have some pretty high expectations from this acquisition as we go forward.

Okay.

Thank you.

our next question is a follow up from Eli Lustgarten of Longbow Security.

Hi again.

Going back to the acquisitions, with the fourth quarter closure your security and probably the minority interest.

Can you explain a little bit what the impact would be?

Is the Spanish a significant part of the minority interests that you take out each quarter?

Did that disappear?

How do we look at that?

Yes.

We'll pick that up in equity accounting, Eli, the way we have the current structure in place.

The minority interests will not be affected on that one.

Okay.

That's going to be in AMSG.

What kind of magnitude do we have data for the volume next year on that side of business?

what are you saying, from a sales perspective?

Yes.

We haven't closed on it yet so once we get the official closing, hopefully in a week or so, we'll be able to provide that information due to the seller's request.

Thank you.

Thank you, Eli.

At this time there are no further questions.

Ms Bailey, are there any closing remarks?

This concludes our discussion.

Please contact our Director of Investor Relations, Quynh McGuire at (724)539 6559 for any follow up questions.

Thank you for joining us.

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