Kennametal Inc (KMT) 2013 Q4 法說會逐字稿

Good morning.

My name is Regina, and I will be your conference operator today.

At this time I would like to welcome everyone to Kennametal's fourth-quarter and fiscal-year 2013 earnings call.

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

After the speakers' remarks, there will be a question and answer session.

(Operator Instructions)

Thank you.

I would now like to turn the call over to Quynh McGuire, Director of Investor Relations.

Please go ahead.

Thank you, Regina.

Welcome everyone.

Thank you for joining us to review Kennametal's fourth-quarter and fiscal-year 2013 results.

We issued our quarterly earnings press release earlier today.

You may access this announcement via our website at www.kennametal.com.

Consistent with our practice in prior quarterly conference calls, we've invited various members of the media to listen to this call.

Also, it's being podcasted live on our website, and a recording will be available on our site for replay through August 26, 2013.

I'm Quynh McGuire, Director of Investor Relations for Kennametal.

Joining me for our call today are Chairman, President and Chief Executive Officer Carlos Cardoso, Vice President and Chief Financial Officer Frank Simpkins, and Vice-President of Finance and Corporate Controller Marty Bailey.

Frank and Carlos will provide further information on the quarter's financial performance.

After their remarks, we will be happy to answer your questions.

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

The discussion we will have contains comments that 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 achievement to differ materially from those expressed in or implied by 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's provided SEC with Form 8-K, a copy 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 8K presents GAAP financial measures that we believe are most directly comparable to those non-GAAP financial measures, and provides a reconciliation of those measures as well.

I will now turn the call to Carlos.

Thank you, Quynh.

Good morning, everyone.

Thank you for joining us today.

I'm pleased to report that Kennametal again delivered strong EBIT margin performance -- 13.1% for the June quarter, despite mixed conditions in the micro environment.

In fact, we achieved double digit profitability for every quarter of fiscal-year 2013, resulting in 13.3% EBIT margin for the year.

We also generated all-time record free operating cash flows of $204 million this year, representing nearly 100% of net income.

In other company-specific actions, we further strengthened our balance sheet, accelerated our share buyback program, and increased our dividend.

During fiscal-year 2013, we returned cash to shareholders at 83% of earnings, and 84% of free operating cash flow.

The June quarter reflected 2.4% sales growth compared with the prior quarter, a sequential increase that was in line with expected seasonality.

Moving forward, we are beginning to see favorable indicators of demand growth, particularly in our transportation and general engineering business.

Although market conditions were challenging during the past 12 months, it is important to note that Kennametal delivered substantially better results in fiscal 2013 than we have in past down cycles.

We demonstrated agility, and elevated our base performance in terms of profitability, earnings, cash flows and return of investment capital.

We also expect to realize strong operating leverage on the upturn, because fundamentally, both operationally and financially, Kennametal is stronger than ever.

And now I would like to provide an overview of trends that we are seeing in our served-end markets.

In the aerospace industry at the Paris air show in June, OEMs announced order commitments of 1258 aircraft.

Airbus confirmed the highest number of aircraft sold at 466 units, reflecting the success of the re-engineered A320NEL.

Boeing, however, had higher activity in terms of dollars at an estimated $57 billion of orders, mainly for its new 787S.

As the commercial airspace market continues to grow, the supply chain is being redefined.

Kennametal is focused of supporting the development of new aircraft technologies, enabling the entire supply chain to increase its manufacturing throughput of titanium parts.

General engineering, which primarily consists of distribution channel customers but also includes smaller manufacturing shops, is expected to see modest growth for machinery production for calendar year 2013.

In the near term, the domestic demand is expected to increase first, with experts regaining some momentum in calendar year 2014.

Recently, the Association of Manufacturing technology reported that while US orders year-to-date through May 2013 were down approximately 7% from prior-year, there was a sequential increase in May from prior months.

In transportation, NAFTA light vehicle production is expected to increase modestly at 4.5% in calendar year 2013 to 16.1 million units.

Demand is being helped by an aging vehicle fleet and recovering housing market.

Long term, the industry continues to make ongoing investments, such as the General Motors announcement that it will invest approximately $69 million in its manufacturing operations in Mexico.

In western Europe, light vehicle production is estimated to decline further by 3.7% in calendar year 2013 to 12.1 million units.

In India, production is projected to be flat in calendar year 2013, but it should increase to 4.4 million units in calendar year 2014.

Market conditions in China are expected to improve in light vehicle production forecasted to increase 10% in calendar year 2013 to 20.4 million units.

Regarding the energy market, natural gas inventory levels were within the five year average, but 70% lower than prior-year.

Currently, average prices are higher than $4 per MBTU, and expected to benefit from declining natural gas inventory.

In oil drilling, world production rose by 1.9 million-barrels per day, with US production increasing by one million barrels per day.

However, the world rig count is down 5% to 6% year-over-year.

This continues to validate the trends of ever-increasing levels of production per drilled well.

As each well ages and produces higher volumes of oil and natural gas, conditions are expected to become more demanding.

Kennametal can bring value to its market by adding longevity to a well in our many solutions from underground claddings to surface coatings.

Our portfolio is well suited to address the needs of the energy market by providing well technologies as well as drilling products.

In the mining industry, coal production is expected to be lack-luster globally for the next six to nine months.

US coal prices continue to be relatively flat.

Metallurgical coal pricing has become more competitive and steam coal demand is stable but remains low.

In China, coal imports from the US and Indonesia are increasing.

However, its domestic production will likely remain at current levels, but should begin to recover in calendar year 2014.

For the road construction and rehabilitation sectors, the US Census Bureau of the Department of Commerce estimated that in the first five months of calendar year 2013, year-to-date construction spending was approximately 6% higher than prior-year.

However, road construction activity continues to lag due to the weather-related issues in the early part of 2013, especially on secondary roads.

But with all of the delay so far, there is a potential for busier season to complete existing projects in remaining calendar year 2013.

From a geographic perspective, the general outlook is essentially unchanged according to HIS global insight.

However, underlying growth patterns have shifted to reflect the slightly more upbeat view of the developed economies and a bit more down beat view of big emerging markets.

In the US, there have been multiple head winds, and it has been difficult for the economy to gain momentum.

The government spending sequester is expected to hold back growth through the end of calendar year 2013.

Looking ahead, consumer spending combined with business investments should provide a solid foundation for expansion in calendar year 2014.

In the Euro zone, the recession has now spread to a number of northern European countries.

However, German economic growth is expected to improve during the remainder of 2013 and continue in 2014.

In emerging markets, China's near-term outlook is soft, with weak external demands, and economic growth in India is bottoming out, with a shallow recovery expected in the near term.

Overall, given the more favorable macro indicators from the US and Europe recently, the world economic economy seems to be in a soft recovery mode.

Behind those economics factors, we can see to enhance our organizational structure to better position our Company for growth in core-end markets.

Effective fiscal 2014, we align our management team with customer facing products and technology platforms to further increase cross-selling opportunities.

This operating structure supports Kennametal's growth objectives across the diverse market sectors, preserves the focus on customers, increases product innovation and simplifies acquisition integration.

We will continue to report results for our industrial and infrastructure segments by served-end markets along with technology-based sales for each segment.

For fiscal year 2014, our guidance reflects organic top-line growth of 5% to 7%, which is approximately twice the currently forecasted industrial production growth of 3.3%.

We expect to continue generating strong cash flows and will remain consistent with our capital allocation strategy.

Our confidence is reflected in our Board's approval of a 12.5% dividend increase to $0.18 per share quarterly.

In addition, the Board increased our share repurchase authorization.

We currently have 10.4 million shares remaining under our payback program.

As always, we remained focused on maximizing shareolder value.

We will continue to execute our strategies to manage our portfolio for growth.

We successfully completed the integration of Stellite, and we continue to seek acquisitions that complement our core business and further strengthen our technology platforms.

Kennametal has an established record of introducing innovative new products at a market-leading pace.

In fiscal year 2013, we generated 45% of revenues from new products.

We will also look again -- look to gain further market share by increasing our presence in distribution channels with the Widia brand, and growing our business in emerging markets.

I will turn the call over to Frank, who will discuss our financial results for the quarter in greater detail.

Frank?

Thank you, Carlos.

Consistent with the past, I will start by making overall comments -- first on the fiscal year, and then I will review our fourth quarter in more detail.

And some of my comments are associated with non-GAAP metrics.

Consistent what Carlos said, overall we delivered solid results with double-digit profitability throughout fiscal 2013, despite a challenging macro-economic environment.

We met expectations in the June quarter for both sales and earnings per share, and this was our strongest quarter of the year reflected a 2.4% sequential sales growth from the prior quarter.

In addition, we realized an all-time company record for free operating cash flow.

This cash flow achievement was driven by improved efficiencies and working capital, and represented nearly 100% conversion of net income for fiscal 2013.

Regarding balance sheet actions, we further strengthened our financial position, enhanced our liquidity and extended our debt maturity profile, and I will provide more details later in the call.

Moving on to our uses of the cash, we remain consistent with our capital allocation principles.

We reinvested in our business approximately $80 million of capital expenditures.

We repurchased 1 million shares in the quarter, and 3.1 million shares of stock buyback for the full fiscal year, and for the third consecutive year we increased our dividend by 12.5% this time, to $0.18 per share on a quarterly basis.

Turning to the June quarter, we experienced improved sales trends in our early cycle industrial business, which continues to gain momentum.

However, the infrastructure business which is generally mid- to-late cycle, continued to lag as mining and energy markets remained weak globally.

Despite these market conditions, we again delivered double digit EBIT margin with the June quarter at 13.1%, and we maintained our ongoing cost discipline as shown by operating expenses at below 20% of sales, and it's important to note that our continued proactive cost reduction measures, as well as even more efficient organizational structure, helped deliver this double-digit adjusted operating margin of almost 14.6%, despite the continued market challenges.

Now let me walk through the key items in the income statement.

Sales for the quarter were $671 million compared to $739 million in the same quarter last year.

Our sales decreased by 9%, reflecting an 8% organic decline and a 1% unfavorable effect from currency exchange.

Looking at the business segments, the industrial segment had sales of $384 million, and declined by 9% from the prior-year quarter.

This was due to an 8% organic decline, and a 1% unfavorable effect from currency.

On an organic basis sales declined by 8% in the general engineering group, 7% in transportation and 6% in aerospace and defense.

On a geographic basis, and including the effects of workdays, sales decreased year-over-year by approximately 12% in the Americas, 6% in Europe, and 5% in Asia.

The industrial segment grew sequentially by 3% from the March quarter, driven by improved end market demand in the general engineering and transportation sectors, particularly in Asia.

Infrastructure segment sales of $288 million decreased by 10% year-over-year, driven by an 8% organic sales decline, and also 1% decline from pure business days and 1% unfavorable effects of currency.

Organically, sales declined by 12% in energy and 6% in the earth-works businesses as weak market conditions continued in both natural gas drilling and underground coal mine.

Geographically, and including the effects of workdays, sales decreased from the prior year by approximately 11% in the Americas, 8% in Europe and 3% in Asia.

On a sequential basis, the infrastructure segment grew 2% compared to the March quarter, as earthworks sales improved over the March quarter, resulting from increased demand from the road construction season which typically starts at that time.

Now, recap on our operating performance.

Our gross profit margin was 34.1% compared to 30.8% last year.

The decline was due to lower sales volume and unfavorable inventory valuation adjustments, primarily related to LIFO and ENO adjustments, and this was partly offset by absorption benefits associated with slightly higher inventory in the quarter.

Our operating expenses declined $9 million year-over-year, due to employment and related compensation costs, containment of discretionary spending, and favorable foreign currency.

Operating expenses as a percent of sales was 19.8% for the quarter, and this represents ongoing cost discipline from our global team, combined with the effect of Stellite, which has a lower SG&A percentage compared with Kennametal's base business.

Our operating and income was $91 million, and this compares with $117 million last year.

The decrease in operating income was due to reduced sales volumes, unfavorable inventory valuation adjustments partly offset by lower OpEx, absorption benefits associated with slightly higher inventory, and the operating margin for the June quarter, excluding the effect of Stellite, was 14.6%.

Looking at the operating income performance by business segment, industrial segments operating income was $56 million, and this compares with $76 million in the same quarter of the prior year, and this is due to reduced sales volume and unfavorable inventory adjustments, also offset by favorable OpEx, and absorption benefits associated with slightly higher inventory.

Industrial's operating margin was 14.6% compared with 18.2% in the prior year.

Sequentially, the industrial operating income improved $11 million, or 240 basis points from $45 million in Q3, and the improvement was due to increased of sequential sales growth driven by general engineering and transportation.

The infrastructure segment's operating income was $35 million, and this compares with $42 million, in the same quarter last year.

Operating and income decreased due to the effect of the organic sales decline, and unfavorable inventory adjustments also partly offset by lower OpEx, and the benefits associated with slightly higher inventory.

Infrastructure's adjusted operating margin was 14.8% for the June quarter, compared with 17% in the prior year.

Infrastructure's operating and income improved $3 million sequentially from $32 million in the March quarter, due to the increased sales volume related to road construction activity and our earthworks business, as well as improved gross margins.

Our interest expense decreased $1.4 million year-over-year and the June quarter to $7 million.

This decrease was favorable due to the effects from the refinancing of our 7.2% notes that matured in June of 2012 with lower interest of 3.875%, ten year notes that mature in 2022 and lower average debt levels during the quarter.

Our effective tax rate was 23.9% in the quarter, compared to 20.3% in the prior year.

The increase was driven by a favorable European audit settlement in the prior year.

And regarding our bottom line, we reported the June quarter diluted earnings per share of $0.76, compared with a $1.06 in the prior year.

Looking at cash flow, our full-year cash flow from operating activities was $284 million, compared with $290 million in the the prior year.

Cash flow benefited from our ongoing inventory reduction initiative, which reduced finished goods in [whip] by approximately $41 million for the fiscal year.

During the June quarter, we felt it was appropriate to shift our focus from inventory reduction to further improving order fill rates as we prepare to serve higher levels of customer demand, particularly in the industrial markets, and that's consistent with our discussion last quarter.

Net capital expenditures were $80 million, compared to $96 million last year.

And year-to-date free operating cash flow was an all time Company record of $204 million, and this compares with $193 million in prior-year.

And as I said earlier, we achieved our goal of approximately 100% conversion of net income to free operating cash flow.

We also remain committed to balancing our priority uses of cash.

As I said earlier, we repurchased 1 million shares in the June quarter, and 3.1 million for the year.

And we also amended the share repurchase program in July, and now have approximately 10.4 million shares available for purchase under the program.

We remain confident in our ability to continue to generate strong cash flow, and we will stay consistent to our capital structure principles.

We have investment grade ratings and stable outlooks from all three agencies, and committed to maintaining them.

We continually strive to balance the key priorities by prudently deploying cash, strategic growth investments and acquisition opportunities, and returning excess cash to share owners, as well as reducing debt.

For fiscal 2013, we returned 83% of our net earnings to shareholders.

The combined payout ratio reflects $121 million in share repurchases, and $51 million in dividends.

And net income before non-controlling interest was $207 million.

In addition, share repurchases and dividends combined represented 84% of our fiscal year free operating cash flow of $204 million.

As always, we remain active on the acquisition front to identify and develop potential candidates.

We signed definitive agreement in May, and anticipate closing on the transaction in early August, to acquire Tungsten processing operations in Bolivia, which furthers our strategy to balance our metallurgical sources.

We continue to be highly disciplined in our allocation process to ensure that we invest in initiatives that have the highest share owners returns.

Our balance sheet remains strong.

During fiscal 2013, we reduced finished goods in [whip] by $41 million.

Although our original goal was $60 million of inventory reduction, as I said earlier, we felt it was prudent at this time to focus on improving our fill rates to support increase in customer demand in the industrial sector.

At June 30, we have $44 million in short term debt, and available liquidity of more than $0.5 billion on a revolver.

Total debt stood at $748 million, and our cash balance was $377 million, with the majority of this cash presently residing overseas.

So net debt was $371 million at June 30, a decrease of $58 million compared to the March quarter, due to strong cash flow generation, partly offset by share repurchases and June quarter dividend payment.

Debt-to-capital ratio at June 30 was 29.2%, compared to 25.3% last year, and our adjusted return on invested capital was 9.5%.

We continue to actively manage our pension plans, and enjoy the benefits of our adoption of the liability investment strategy over six years ago, and our US pension plan remains over 100% funded.

In the June quarter, we also took additional measures to further enhance our liquidity, capitalize on favorable market conditions to extend our debt maturity profile, we amended our existing $600 million syndicated revolving credit facility to extend the maturity to April of 2018.

We felt it prudent to move forward at this time to lock in attractive pricing, and reduce exposure to future markets' uncertainty.

And as a reminder, we issued 400 million seven-year 2.65% notes in November of 2012, which significantly increased our liquidity and generates a weighted average interest rates of about 3%.

As a result of these strategic initiatives, our debt maturity profile has effectively diversified and extended, and our nearest debt maturity is now 2018.

Quick update on Stellite -- the integration of Stellite continues to be on track.

We achieved a critical milestone in the integration as we cut over four key operation sites on SAP on May 1. The implementation will allow us to accelerate future synergy opportunities both on commercial and operational side.

Similar to the served-end market of our infrastructure segments, Stellite continued to experience demand weakness in the fourth quarter.

We continue to manage operating and integration costs to partly mitigate the adverse volume effect on our results.

And as we complete the first year of ownership of Stellite, we remain focused on driving further synergies into fiscal 2014.

Now I'll turn to the outlook for fiscal 2014, and I'll provide additional assumptions to help you with your models.

For fiscal 2014 our outlook reflects expectations of continued macro-economic improvement, with worldwide industrial production building momentum.

While manufacturing and industrial sectors are projected to expand over the next year, underground coal mining will likely remain weak globally, as well as near term project delays in the energy markets.

Fiscal 2014 we expect organic sales growth to range from 5% to 7% in total sales growth between 4% and 6%.

This growth rate is expected to outpace global industrial production through Company specific initiative.

Fiscal 2014 outlook is based on the following assumptions --we're projecting 5% to 7% on an organic basis which is double the forecast of global IPI.

Weak conditions will likely persist in underground coal mining globally.

However, we expect increased activity in the US highway road construction to kick in.

Our operating expenses include approximately $10 million of investments related to pay-as-you go restructuring, productivity and sales force additions for long term growth.

I also want to point out our operating expenses also include fully restored incentive compensation, which was significantly lower in the prior fiscal year.

Foreign exchange is expected to be a headwind compared with prior-year, and will have an unfavorable impact on operations which we estimate to be about $0.05 per share volume.

Our effective tax rate is expected to be between 24% and 25% due to an unfavorable geographic mix.

As you know, the prior-year effective tax rate benefited from a European tax settlement, and the extension of the [ardinee] credit a year ago.

We estimate the higher tax rate will effect earnings per share to the effect of $0.08 to $0.10 per share lower than the prior year.

We also expect our earnings to be consistent with historical seasonal patterns, with approximately 40% in the first half and 60% second half.

And I'll also point out our non-controlling interest expense will increase due to the Kennametal India stock sale.

We now own 75%, compared to 88% previously.

Consistent with our capital allocation principles, we plan to reinvest back into the business between $130 million to $150 million of capital spending, and approximately $50 million of this CapEx range represents previously announced strategic long-term investments, which includes expanding Tungsten production capabilities, growth initiatives, productivity and international expansion.

Our Board also approved a 12.5% increase to our dividend by 2% to 18% per quarter, and we expect to repurchase between 2 million to 2.5 million shares in fiscal 2014.

As Carlos noted, we recently increased our share repurchase program to 17 million shares, with 10.4 million shares available under the second amended authorization.

Based on these highlighted factors, we expect earnings per share to range from $2.90 a share to $3.10 a share in fiscal 2014.

The midpoint of this range represents a 19% increase from the earnings per share of $2.52 in the prior year.

And regarding cash flow, we expect to generate operating activities ranging from $330 million to $380 million in fiscal 2014.

Based on anticipated capital expenditures of $130 million to $150 million, we expect to generate between $200 million to $230 million of free operating cash flow for the fiscal year.

This level of free operating cash flow represents 80% to 100% of net income, and this is in line with our long term objective of realizing 100% conversion of net income.

We will continue to manage our business for the factors we can control the deal with.

In the near term market head winds will come as if needed.

In addition, we remain focused on many growth opportunities and a consistent execution of our strategies.

At this time I will turn it back to Carlos for a few closing comments.

Thank you, Frank.

As we move forward, we will continue to execute strategies consistent with our long range growth plans.

First, our diverse end market mix provides additional growth opportunities for Kennametal and lessens volatility throughout the economic cycle.

We will also further balance our business between our industrial and infrastructure segments.

And finally, we will continue to expand our geographic presence so that we are represented equally North America, western Europe and the rest of the world markets.

Kennametal's fiscal year 2014 outlook reflects our continued expectation to outperform global industrial production through company-specific initiatives.

Our EPS guidance at the midpoint represents a 19% increase from prior year.

In addition, we will remain disciplined in our capital allocation process and stay true to our priority uses of cash, to invest in our business, to better meet customer demands, make acquisitions in existing and adjacent markets, repurchase shares and pay dividends.

Our Board is approved expanding our buyback authorization, and additionally approve an increase in the dividend.

Both of those actions represent our commitment to shareholders, as well as our confidence in Kennametal strong cash generation ability going forward.

In summary, our global team will continue to execute our strategies to further strengthen our business and drive growth and profitability.

Our five year aspirations include doubling revenues while delivering improved profitability and returns.

We believe our goals are achievable.

We have the right strategies, technology platforms, prior portfolio, management operating system and the right culture.

Kennametal is well positioned for the future and this is an exciting time to be shareholders.

Thank you for your continued support.

We will now take questions.

Thank you.

(Operator Instructions)

Our first question comes from the line of Eli Lustgarten with Long Bow Securities.

Good morning, everyone.

Good morning, Eli.

Couple of questions going on.

One, can you talk about business conditions as you went through the fourth quarter, particularly for June, and maybe how it spilled over into July?

It looks like things weakened a little bit in June or so, versus the three-month rolling of what we saw in your orders in March, April, May, which were down a little bit less.

Do you have some idea what's going on, conditions, as we went through the quarter into the new year?

I would say that, Eli -- this is Frank.

I would say that June came in pretty much in line, maybe a little bit better for the month.

And then as far as July is going, I would say July is pretty much dead-on with our plan as we rolled out with the top line guidance of July is trending in line.

It seems like the industrial sector doing better than the infrastructure, particularly as we pointed out, the underground mining and the some of the delays with the energy.

But we will see how much of the pent-up demand is on the highway construction with some of the delays we had with the weather early on.

Everything's -- I would characterize as, it's trending in line and we probably finished I would say slightly better in the month of June with a little stronger finish on the industrial versus the infrastructure in total.

And Eli, I will also add that we are definitely not seeing any destocking at this point that -- and I think the timing is probably September because of the shut downs and summer breaks and all of this stuff.

We will have a better idea to the restocking.

I think there is a possibility of seeing some restocking in the general engineering starting in September sometime.

And you talk about guidance of top line of 5% to 7% organic before that.

How does that split between the two basic businesses between industrial and infrastructure.

I assume you aren't thinking -- assuming both the same or industrial a little stronger and because of the mining and energy relationship infrastructure weaker.

How do you think about --?

The recovery is definitely going to happen in the industrial just like the down cycle came more severely in the industrial and the destocking happened in industrial.

So the restocking that we see coming -- taking place is going to happen in the industrial.

The industrial will be higher than the infrastructure.

You are thinking industrial will be up in the high single digits and then infrastructure in the low single digits?

Is that sort of the split that makes up this forecast?

And we are -- Eli, don't typically disclose that information, but it's directionally where you are.

And can you talk a little bit about the improvement in profitability you expect in the business, or so -- margins were a bit under pressure for the year.

They came in very similar in the two groups.

We can't x-out Stellite any more, so you got to keep it in there.

Are we were looking at basically the same improvement in margin?

Give us some idea of what's going to happen in profitability if we look out?

As we look forward, I would expect continued gross margin expansion.

The factors I would point to would be the benefits associated with the volume -- we'll get the absorption there.

Right now we will see what happens, a little bit of a benefit on the raw materials.

We are not going to be reducing inventory to the magnitude we did last year.

And then as Carlos pointed out, with the industrial being a little stronger particularly the general engineering, that's a little bit favorable.

So you going to get a mixed benefit from both the gen eng side as well as the energy side and infrastructure.

So there are the drivers there.

Also, OpEx will be up a little higher so the growth will be higher than it's typically, and I try to call that out in the call.

Half of that was related to restoring incentive comp, and then we're doing some restructuring in productivities that we're basically adding some people in the numbers so we're going to have a little bit higher on operating expenses.

But the growth and the margin from the strategies that we put forward we think will more than compensate in the investments we need to make.

Your next question will come from the line of Steve Volkmann with Jefferies and Company.

Good morning, guys, and Quynh.

How are you doing, Steve?

Fine, thank you.

I had another question because I was intrigued by something you just said about the potential for little bit of restock starting in September.

Would you mind just expanding on that a little bit?

I think things have been slowly moving into the right, so typically when we see the destocking -- the period that starts to restock is not -- is a little longer this time, and I think one of the reasons is because of the vacation and the shut downs that take place.

So we are starting to see a little bit of activity, and for the industrial -- for the general engineering side of the business.

Okay.

That's helpful.

And then, is that part of the reason that you guys outperform industrial production next year?

Or maybe you can put in some bin, some of the internal stuff you are doing to drive that outperformance?

So I think that there is a number of things.

One of it is continue the Widia strategy that -- again the restocking is going to take place primarily in the distribution area.

And Widia is well positioned for that, so that continues to be one of our growth strategies.

The other thing that we are expecting is that the -- we have a number of new products that are -- have been specifically designed for the aerospace, the titanium parts, so to the extent that this new aircraft are taking place, they're growing at a faster pace than the rest of the traditional aircraft.

I think we will have a great opportunities there.

And some other areas of new products.

We're going to EMO in September.

We have a great deal of new products that we are introducing there that are going to generate sales in the second half of the year.

And obviously from a position that we have in the globe, where we have infrastructure, we are -- have the support in China and India.

Primarily India.

I think we will see an uptick here in the second half of calendar year 2013 and definitely 2014.

So those are the examples of some company-specific drivers.

Thank you very much.

Thank you, Steve.

Your next question comes from the line of Julian Mitchell with Credit Suisse.

Hi.

I wanted to focus a little bit more on the margin outlook for fiscal 2014.

It looks as if at the midpoint you are looking for around about sort of a mid-30s incremental operating margin or so, and then maybe that implies, I guess, flat SG&A to sales in 2014 versus 2013.

And around a 50% incremental gross margin.

I just wondered if you can confirm if those broad numbers sound about right.

And also, just curious within the sort of the shift on inventory strategy which you talked about in the prepared remarks -- it sounds -- inventory was up sequentially.

Is that because you hit your inventory reduction target early on in the quarter, then you saw better trends in general engineering and that caused you to start to build inventory back up as underproduction ended?

Or what's the update on that, please?

Let's talk about the leverage.

Your leverage is a little light.

I would say it's in the 35 to 40%, with a stronger increase in the gross margin, and the way we have it laid out right now SG&A would actually be higher on a year-over-year basis and the drivers there is adding back incentive comp, where it's basically nil in fiscal 2013.

Some of the restructuring I talked about and the addition of some sales force, that's another reason why industrials -- to go back to Steve Volkmann's question -- we're going to add some people in the industrial area to help grow that even faster.

There are the drivers there.

And then, the inventory, we did hit the fill rates where we needed to be, more so in the industrial side.

And we didn't want them to drop too much because as things start to improve, there is a strong correlation with the fill rates and sales so we rebalance and think we were at the right levels as we exited the year.

Great.

Thank you.

And then within I guess the Americas portion of your industrial business, you know, even though we saw the comps year-on-year get significantly easier as you went through fiscal 2013, your organic year-on-year declines stayed about the same throughout the whole year, I just wanted to sort of -- the confidence you have on the near-term domestic for industrial recovery, where is that coming from?

Because it's not evident just looking as we went through the last 12 months that we have seen any change in trend in your business.

I would say that the sequentials from quarter to quarter have gotten better.

We clearly have seen the destocking started to end in December, January time frame.

We are beginning to see a slight uptick in the general engineering, which is where the restocking is coming back.

And to be honest with you, we are looking at -- and talking to the customers we see the IDI forecast and -- but September -- you know, July month-to-date is in line with our expectations so far with the order intake.

And September is the biggest month for us for the quarter.

So September will be sort of the month that will give us even more confidence if it comes in the way we think it's going to come in.

We are not expecting, Julian, -- again, we finished last year -- the month of June last year was very strong, given where we finished the record years.

So that's the comp at the quarter.

You look at underlying business.

It is moving directionally with the early cycle business, so we are feel directionally, we're moving in the right area.

We don't have very strong growth in the first half.

I would say it's a little growth is a little less in the first half than the second half.

We feel we were balanced to where we need to be.

Your next question comes from the line of Ann Duignan with JP Morgan.

Good morning, guys.

This is Damien on for Ann.

Hi, Damien.

Could you guys talk a little bit about the behavioral differences you're seeing between the OEMs and the distributors?

Are the distributors picking up orders and the OEMs kind of pulling back or are they both kind of similar?

I think that the distributors react to the OEM demand, right?

So you have to think about the supply chain gets whipped around.

To the extent that the distributors are destocked, as they start getting orders in place from the OEMs, they are going to get ahead of the orders.

Because, I think one of the challenges is that if the distributors don't have the stock available when the OEM needs it, they lose -- the OEM goes to another distributor.

So this is why they stock so that they have availability.

So that's kind of what happens is that in the upturn the distributor actually grows at a faster rate than the OEMs.

Right.

They are filling the bucket, with the anticipation that the OEM is going to continue to grow.

Okay.

And then quickly turning to Stellite, can you give us some sort of color on what the end markets look like there for Stellite and how that business is doing?

Yes, I think we said that in the call.

The driver for Stellite is also very aligned with the energy side particularly in the IGT side.

That's obviously a little softer in the Americas and that's what we experienced in the quarter.

I would say there is a hangover with Stellite associated with the energy.

That's the biggest drag for those guys, and consistent -- we expect the energy to pick up a little bit in our second half of the fiscal year so early calendar 2014.

Okay, great, perfect.

Thanks, guys.

Thank you.

Your next question comes from the line of Andy Casey with Wells Fargo.

Good morning, everybody.

Hi, Andy.

I'm trying to understand, just looking backwards for a second, the $20 million inventory reduction variance from the $60 million goal, was that about $0.03?

No, it would be a little bit higher than that, but you also got to factor in LIFO and [ENO] reserves that more than offset that going the other way.

Okay.

So neutral impact all-in?

I would say slightly negative, actually.

Okay.

Then on the 2014 guidance, is the $10 million restructuring spread evenly through the year?

I'd probably say like -- probably like coincidentally 40%/60%, I would say.

Okay.

And then do the internal initiatives -- same sort of question, do they spread evenly through the year?

Or somewhat tied to the end market, meaning is it weighted to the back half as well?

I would say they are evenly throughout the year.

Okay.

All right, thanks.

That's all I had.

Thank you, Andy.

Your next question comes from the line of Adam Uhlman with Cleveland Research.

Hi, good morning.

Good morning.

Just a couple of clarifications.

First of all why were the aerospace sales, the revenues down this quarter?

Could you expand what you are seeing from that end market?

Just the comp.

We had a very strong finish in fourth quarter last year.

And we have a number of projects going on there -- a couple of defense orders particularly last year that anniversaried, so we'll continue to look at those.

It's mainly the comp.

Okay.

And what was the Widia sales growth or decline in the quarter?

Less than ours.

We don't give the number but the Widia --

Less than the total.

-- Than the total, because they continue to gain market share.

Okay.

And then switching back to the margin outlook, could you maybe talk about what you are seeing in tungsten prices?

It looks like they picked up maybe a little bit.

Or do we still have a carry over from last year's decline that will carry over into the fiscal 2014 earnings or maybe just expand a little bit on that?

We have a slight benefit built in.

It started off -- we thought it was going to be much higher, but as you appropriately point out our APT was, I would call it in the 350s to 360 in the March time frame, has accelerated to -- the spot prices are about 405 right now.

What we -- we compensate part of that with the benefit from the Emura acquisition which is going to help us nicely there as well.

That's accretive right off the bat.

But we have to watch what's going on here.

I don't know if this is a head fake or continued trend.

And if it continues to run, we will be quick to go forward with price increases expeditiously.

Great.

Thank you.

Next question comes from the line of Steven Fisher with UBS.

Good morning.

Good morning, how are you, Steven?

Good, thank you.

You mentioned some energy project delays -- wondering if you can give us some color on what types of projects you are seeing those delays on and where, regionally?

Are these all in the US or is it more abroad?

I would say it's not one specific.

It's obviously with the biggies, and for us gets reflected -- because I would say about two-thirds of our business gets captured in North America from a point of sale perspective.

But it's pretty much the global delays from the drilling activities.

Okay.

And then on the road building side, just wondering what you expect to drive that activity higher?

Is it really just state budgets improving?

It seems like the states there have been kind of slow to obligate their funds to projects.

Just wondering if you have any insights on why that is as well?

For us, is our construction is in road rehabilitation.

I think in the past municipalities invested in fixing bridges and so forth, this year I think they are spending -- although it's the same as previous years, is going to be more tilted into the road rehabilitation which is kind of our sweet spot.

Okay.

Great.

Thank you.

Thanks.

Your next question comes from the line of Ross Gilardi from Bank of America.

Thanks, guys.

I just want to clarify, Frank, you were clear that the sales trend should improve as the year goes forward, but at what point, what quarter do you think we ought to actually start to turn positive on a year-on-year basis?

I like to hold my fingers.

The first quarter, it's going to be close to slightly positive, I think, if I had to take a guess on it, because of the destocking we had there.

And that's kind of what the trend implies.

Got you.

Can you quantify what you're assuming for mining in your full year outlook with respect to the 5% to 7% organic growth?

Naturally I would think it would be below that, but assuming an additional decline.

It's below.

To your point, your intuition is correct.

I would say that's going to be offset with some of what -- with the business we bought for Tricon, which is for surface mining.

We put a couple of locations in Australia, South Africa, we have one going into Chile.

We will start to some see benefits that will offset it.

The underground coal mining we are expecting that to be on its back for awhile.

Okay.

Just --

Part of our internal initiatives is that Tricon is offsetting any declines.

We anticipate that to be kind of flattish with the Company initiatives.

Got you.

And just related to mining and just some of the areas where you are seeing continued softness, do you see a further need to consolidate your manufacturing footprint, and hence potential for any larger couch restructuring costs that could be pent up for later in the year?

Not from -- the plants that manufacturing stuff for the mining also manufacturing stuff for the construction road rehabilitation.

So at this point we are not going to -- I think our footprint is where it should be.

However, we are doing a little bit of adjustment to the Stellite business which is in the energy business.

But it's primarily -- it's not in the manufacturing, it's primarily in the support area.

Okay.

Then just this last then.

Can you just comment a little bit more about what you are seeing in pricing in some of the key areas and then in your 5% to 7% organic growth for 2014, how much of that is price versus volume?

It's primarily volume.

And then just --

Relative to the pricing.

I think we still finish the year with slightly net positive pricing in 2013.

So the environment is difficult, but we really are not giving price.

And do you think at the margin was it getting better or worse as the year, the fiscal year unfolded?

Or was it pretty much unchanged?

You know, it was unchanged.

It was in line when we do the price increases and how long it takes to get the prices.

It was pretty much the way we saw it and the way we planned it.

Your next question comes from the line of Walt Liptak.

Thank you, good morning.

How you doing, Walt.

Good.

Just a couple of quick ones.

On the seasonality I think typically you're 40%/60%, 40% in the first half and 60% in the back half for EPS.

Is that what we are thinking about for 2014?

Yes.

Okay.

And on the Stellite business, you have that disclosure in the press release.

I think when you bought it, it was running around $300 million in revenue and we got the numbers that are in the press release, and the margins are lower than -- I think half of what they were before.

Is that about right, and with the restructuring you are doing can you get them -- where can you get the margins in Stellite with the revenue coming back?

Yes, I mean, I think the Stellite is where we need it to be, where we planned that to be.

However, they serve the energy business, as you know and the energy business is challenged.

And our plan was that in three years the Stellite was going to be at the same EBIT margins, or close to our EBIT margins, that the rest of the company has had.

We basically lost a year in that because of this year.

So we are, I would say that it is going to take us three years to get that business up to the level that we had planned on to begin with.

Okay.

Great acquisition, we are still very happy with -- again, if it wasn't for the energy business and the industry being down, we would be delivering everything that we said we would deliver.

Okay.

Got it.

And then in the past you've talked about the SAP system and leveraging that and getting some benefits.

Were the benefits in 2013, or those to come in 2014?

They are to come.

They are to come.

We literally just some of the facilities just went on a couple of months ago.

Okay, thanks very much.

Thank you.

Thank you, Walt.

Your next question comes from the line of Samuel Eisner with Goldman Sachs.

Good morning, everyone.

Good morning.

I want to attack the margin question maybe from a different way.

I'm curious what your utilization rates were in the fourth quarter and what your expectations are for your manufacturing levels throughout the course of the year?

They were up given -- we had two additional workdays in the fourth quarter from just on the pure workdays basis, they're probably up two to three points.

I don't know if they are in the low 70s or maybe got to the mid-70s on an aggregate basis, but the industrial plants are a little bit better and softer on the infrastructure side.

And then heading out into next year, I mean, how do you guys think about that in regards to inventories and certainly how that's going to benefit your profitability going forward?

I think we are in the right place.

We were focusing on the fill rates as we said earlier with the infrastructure.

The first quarter is always challenging because of the summer shut downs and the European vacations so nothing unusual or out of line from that perspective.

But we've put some good capital in the business.

We think that we are focused on the right metrics to have a better balance score card from a metrics -- we aren't reducing inventory to the magnitude we did last year.

We put a couple of patches on our demand planning -- we think we are in line with where we need to be in the guidance and if everything got stronger and we can handle it.

Okay.

Great.

And then on -- in terms of market share, any major changes on market share, either within Widia or your base Kennametal business?

I mean, as we always talk about, market share is really difficult to -- in our business to point out, but Widia is growing faster than the rest of our business, so they are definitely getting market share out there.

And I think that our -- obviously we are growing at a faster than IPI, we are getting that from market share gains.

I think that the big players continue to have deep balance on their market share.

Great.

And then lastly, think you hit on this but I might have missed it.

The incremental $50 million you are spending in your CapEx budget -- what specifically are those long term investments that you guys are making, and how does that flow throughout the course of the year?

Those are in accordance with some of the press releases that we did before.

So one of them was to acquire tungsten processing operations in Bolivia.

We are going to do some upgrades in that area in that new business.

We also announced an investment in tungsten-cobalt blended powder operations in the US And we are going to do some additional investments in Stellite.

So it's a combination of strategic investments that are going to pay throughout -- you know have a payback past 2014.

So those are pretty much even now throughout the year.

And we have one other one in India that we put out that we are modernizing our facility in Bangalore.

Our final question comes from the line of Steve Barger with Key Bank Capital Markets.

Hey, good morning, this is actually Teague just filling in for Steve.

Most of my questions have been taken.

Just a few more here, though.

With regards to your EPS guidance for 2014, what's the assumed share count?

You guys put out a increase in the repurchase limits and I'm just wondering the assumption there.

I think I said this in the outlook, that we purchased between 2 and 2.5 million shares.

Got you.

And then, correct me if I'm wrong, but maybe I caught this incorrectly.

But you said incremental operating margins are to be in the 30% to 35% range.

I said 30% to 35% to 40%, in that range.

Got you.

That makes sense.

And then just with regards to ROIC, step down to single digits, first time since 1Q, 2011.

And, you talked about Stellite not being where you thought it would have been.

But just kind of looking forward, especially given that you are lowering your capital base.

Is 15% by 2015 still the goal?

Can you talk a little bit about that?

Our goals remain mid-15%.

We haven't changed that.

And your point when you make an acquisition of size it does have an impact on your denominator.

It's just the way it is.

And plus we will put more higher CapEx here, but we think we have the right plans, and when earnings come back we will get the numbers where they need to be.

But our overall financial metrics from a long term have not changed.

Got you.

Thanks, guys.

Thank you.

And this concludes today's Q&A session.

This concludes our discussion.

Please contact me, Quynh McGuire, at 724-539-6559 for any follow-up questions.

Thank you for joining us.

Today's call will be available for replay beginning at 1 o'clock pm Eastern Time today, and lasting through midnight Eastern Time on August 25, 2013.

The conference ID Number for the replay is 15004628.

The number to dial for the replay is 855-859-2056, or 404-537-3406.

This concludes today's discussion.

Thank you for your participation, and you may now disconnect.