Kennametal Inc (KMT) 2016 Q1 法說會逐字稿

Good morning.

I would like to welcome everyone to Kennametal's first-quarter FY16 earnings call.

(Operator Instructions)

Please note this event is being recorded.

I would now like to turn the conference over to Beth Riley, Interim Investor Relations.

Please go ahead.

Thank you, Laura.

Welcome, everyone.

Thank you for joining to us review Kennametal's first quarter FY16 results.

We issued our quarterly earnings release earlier this morning and it is available on our website, www.kennametal.com.

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

It is also being broadcast live on our website and a recording of the call will be available there for replay through December 3. As Laura mentioned, I am Beth Riley and I'm providing interim Investor Relations for Kennametal.

Joining me for the call today are President and Chief Executive Officer, Don Nolan, our new Chief Financial Officer, Jan Kees van Gaalen, and Vice President Finance and Corporate Controller, Marty Fusco.

Don and Jan Kees will discuss the Company's performance in the September quarter.

After their remarks, we'll 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 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 to us discuss non-GAAP financial measures during the 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 provides a reconciliation of those measures, as well.

Before I turn the call over to Don, I would also like to remind you of our Investor Day, which is scheduled for December 15 in New York.

As previously stated, we will provide greater detail regarding our strategy and financial goals at that time.

And with that, I'd like to give to you Don.

Thank you, Beth.

Hello, everyone.

Thanks for joining us today.

For Kennametal, the first quarter of 2016 was a sharp contrast between progress and challenges.

The economic environment remains difficult and conditions actually worsened as the quarter progressed.

Some of the causes for the slowdown remain the same: the prolonged impact of the rapid drop in oil and gas prices and the strong US dollar and its impact on export demand.

In addition, we have seen a faster than anticipated decline in the Asian light vehicle market and destocking in our indirect channel.

In the first quarter, Kennametal had a 20% drop in revenues compared with the year-ago quarter and a decline in our adjusted earnings per share to $0.14 compared to $0.56 in the first quarter of last year, as we continue to be impacted by the macroeconomic forces in currency FX.

On the plus side, we continue to focus on cost savings and are on track to accomplish the goals we set in phases 1 through 3 of our restructuring.

We are in the process of divesting non-core businesses, and we fortified our Management team, adding two new executives to our team.

We expect the macro environment and strong US dollar conditions to continue for the balance of this fiscal year.

As a result, Kennametal now expects consolidated adjusted EPS guidance to be in the range of $1.50 to $1.70.

We're also revising our top line guidance, and now expecting total sales for FY16 to decline in the range of 10% to 14%, and organic sales to decline in the range of 6% to 10%.

Previously, total sales decline was projected to be in the range of 7% to 9%, with organic sales decline of 1% to 3%.

In order to mitigate the impact of this top-line softness, we are implementing additional sustainable cost reduction initiatives, which are expected to generate $20 million to $25 million of cost savings for the remainder of the fiscal year.

These additional cost reductions will position Kennametal for a stronger, profitable growth in the future when end market demand improves.

While we continue to face significant headwinds, we remain focused on what we can control: re-aligning our cost structure, adjusting our footprint, managing our working capital, and simplifying our portfolio and processes.

We continue to identify ways to improve our internal support functions and have benchmarked top performing companies.

Over the past 12 months, we have been preparing to implement changes to how we perform transactional work and partner with service providers to achieve world-class efficiency and effectiveness in our shared service functions.

We continue to successfully execute our previously announced restructuring phases 1 through 3. We have achieved a run rate savings of approximately $84 million and believe our restructuring programs and portfolio realignment will position us well for improved earnings when our end markets recover.

During the quarter, we reduced our manufacturing footprint by two additional facilities.

In the first quarter, we continued to manage working capital aggressively.

The improved performance and working capital management we've demonstrated in the past three quarters gives us confidence to maintain our year-end guidance on free operating cash flow at $115 million to $135 million, despite our earnings adjustment.

As we have previously discussed, we were considering alternatives for certain non-core businesses in accordance with our portfolio realignment strategy.

I'm happy to report that we have entered into an agreement to sell those non-core businesses, representing approximately $220 million in annual revenue.

This is an important step in our portfolio simplification efforts and dramatically reduces our complexity, as we are divesting 18 total facilities: 11 manufacturing facilities, and seven smaller facilities.

The divestiture of these businesses will be immediately accretive to our operating margins.

The transaction is expected to close within the second quarter.

We have also strengthened our leadership team.

Our new chief financial officer, Jan Kees van Gaalen, will draw on his global experience in driving industrial business transformations and improved performance.

More recently, Greg Temple joined Kennametal to lead our Global Manufacturing and Supply Chain organization, and we named Pete Dragich as the new leader for Infrastructure business segment.

The relocation of our corporate headquarters to downtown Pittsburgh, which we announced during the quarter, puts us closer to major universities and the airport, presenting new opportunities to innovate, grow, and recruit talent.

Our technology team and related research and development activities will remain in our current location in Latrobe, Pennsylvania.

We continue to be recognized where we bring value and we recently received the 2015 Bosch Global Supplier Award.

The honor acknowledges the success of our global team to deliver innovative products, superior quality, and outstanding performance to the customer.

We were the only tooling manufacturer to receive the award, which was given to only 58 of a total 35,000 suppliers.

While we are proud of these accomplishments, we know we have much more work to do, as we continue to face headwinds in both our industrial and infrastructure segment.

Looking at our industrial business, we very much like the long-term potential of the global industrial markets, based on the continued expansion of the world's middle class.

An expanding middle class propels demand for durable goods, vehicles, planes, and housing, all of which fuel demand for our products.

We are clearly impacted by the declining global commodity cycle in this business.

Our business has been particularly impacted by weakness in oil and gas.

The weakness in these end markets are spilling into the general engineering sector, where we believe there has been destocking; particularly in the indirect channel.

While these are global trends, we have felt the impact most acutely here in the Americas, where our relative exposure to the oil and gas market is greater.

In China, vehicle production declined 12% sequentially and we saw significant reductions in production as shift reductions and plant shutdowns occurred.

We believe we are well-placed in this market for the eventual rebound.

We continued to improve our operational capacity to effectively anticipate and respond to the needs of our customers.

Our application and engineering know-how coupled with market-leading digital solutions helps our customers to increase their productivity.

One such evolution is our customers' desire to increase their products' performance through stronger materials.

These difficult to machine materials are well-matched to our broad range of high-performance solutions; clearly in our sweet spot.

Our global multi-channel market access positions us to take advantage of the increase in demand for durable goods from an expanding middle class.

Looking at infrastructure, let's start with the macro picture.

There's no doubt that the brick-driven commodity cycle, primarily in China, has increased volumes and prices for many commodities during the last decade or so, including demand for coal.

Global population growth and resulting energy demand indicates significant need for coal, oil, and natural gas to fuel electricity demand over the next 20 years.

Over time, we expect demands for commodities to increase again through the cycle with improving demand for our products.

Our customers continue to drive for productivity and value; a need which our products are extremely well-positioned.

Our current productivity initiatives and service capabilities will position us well for this volume return.

We generated $39 million of operating cash flow and $3 million of free operating cash flow in the quarter, primarily driven by working capital improvements.

In the prior year, we generated operating cash flow of $51 million and free operating cash flow of $21 million.

As mentioned, we are maintaining our guidance for free operating cash flow for the year.

While we have reduced our outlook for the fiscal year due to weakening markets, we remain focused on executing aggressively on cost and cash factors that are within our control.

I'll now turn it over to Jan Kees for additional details on the financials.

Thank you, Don.

Good morning, everyone.

First of all let me start with the fact that I'm delighted to be part of the Kennametal team.

The Company has an open, collaborative customer-focused culture and operates in an ethical way.

Furthermore, I want to compliment Marty Fusco, here with us in the room, for her performance in the interim role here at Kennametal.

Based on early observations, I'm encouraged by actions initiated to make our footprint and cost structure significantly more competitive through cycles.

These actions began in early calendar 2015 and have been well-executed to date.

Today, we announced further cost reductions in response to rapid changes in several of our end markets.

With this foundation, I am confident that this team is fully engaged in positioning Kennametal to benefit from the opportunities ahead.

Some of my comments are related to non-GAAP metrics.

Please see the non-GAAP reconciliations filed through the Form 8-K and in the press release.

As Don mentioned, the September quarter experienced further weakness in end market demands.

We continue to focus on cost management and liquidity, delivering further reductions in overhead to bring our organization in line with the challenging market conditions and improving working capital.

As our distribution partners continue to work through their stock of our products, when our end markets recover, we will be positioned to significantly profit from market improvement.

Now let me walk you through key components of the income statements on slides 7 and 8. As a result of the economic headwinds, adjusted EPS for the quarter was $0.14, which reflects lower than expected sales and relative negative mix and fixed cost absorption impacts.

By comparison, last year, adjusted EPS was $0.56.

Our September quarter sales were $555 million compared with $695 million in the same quarter last year.

Sales decreased by 20%, reflecting a 13% organic decline and a 7% unfavorable impact from foreign exchange.

On a comparative basis, sales decreased in the Americas 22%, Asia 8%, and Europe was marginally down by 1% compared to last year.

Excluding the impact of foreign exchange, sales were down in all of our served end markets with declines of 31% in energy, 13% in general engineering, 8% in earth works, 6% in transportation, and 4% in aerospace and defense.

Our adjusted gross profit margin in the current and prior periods was 27.5% and 31.9%, respectively.

The decline in our margin was due to organic sales decline leading to lower fixed cost absorption.

In addition, we experienced unfavorable business mix with a comparatively lower percentage of industrial higher margin sales.

The remaining balance is comprised of unfavorable currency exchange, partially offset by restructuring benefits.

Based on our current forecasts, we expect Q1 2016 to be the lowest margins of the fiscal year.

Adjusted operating expense as a percentage of sales was 22.5% for the current period and 21.1% for the prior year.

Adjusted operating expense declined $22 million year over year, due to favorable foreign currency impacts, restructuring benefits, and continued cost reduction actions as we align our cost structure with the reality of the current market conditions.

Turning to the sales by segment on slide 9, industrial segment sales of $313 million decreased 17% from $378 million in the prior year quarter, as we experienced weakening demand in all end markets, particularly in the Americas and Asia.

The general engineering end market weakened considerably where we believe there was destocking in the indirect channel, particularly in the Americas.

Reduced sales activity in the transportation end market was driven by lower light vehicle production levels in China.

Infrastructure segment sales of $242 million decreased 24% from $317 million in the prior year quarter.

Sales were lower year over year, due to the persistent weak demand in oil and gas, underground mining, and general engineering.

We continue to make benefits progress with our restructuring programs, phase 1 to 3, and realize benefits of approximately $21 million in the September quarter.

In the prior year September quarter, we realized benefits of approximately $5 million.

For a more complete update on restructuring costs and benefits, please see slides 10 and 11.

Please now turn to slide 12, where we provide a bridge of the effective tax rate.

The FY16 difference between reported and adjusted is primarily due to a discrete tax charge related to the non-core divestiture.

Please turn to the balance sheet on slide 13.

Cash on hand decreased by $8 million and our current ratio was 2.7 as of September 30, compared to 2.6 as of June 30, 2015.

As shown on slide 14, primary working capital decreased by $61 million as we continued to focus on inventory and receivables.

Primary working capital as a percentage of sales was 35.7%.

The dollar value improvement of primary working capital was offset by the decrease in revenue.

We continue to employ specific and targeted actions to maximize cash flow and liquidity with a key focus on working capital management.

This resulted in operating cash flow of $39 million year to date, as noted on slide 15, despite economic headwinds on our cash earnings.

In terms of uses of cash, we paid out approximately $16 million in dividends during the quarter and total capital expenditures were $37 million.

Total CapEx for FY16 is still projected to be $160 million to $175 million and dividends are projected to be approximately $64 million.

We maintain a conservative liquidity position.

As of the end of September, we had $558 million of availability on our $600 million revolving credit facility.

Our debt-to-cap ratio was 35.9%, similar to last quarter's level of 35.3%.

Our current investment grade ratings are important for Kennametal and we remain committed to maintaining them.

We will deploy proceeds from the sale of our non-core businesses for debt reduction.

We remain committed to our capital allocation principles and will continue to prioritize business reinvestment for profitable growth to drive shareholder value.

Turning to the outlook for the remainder of FY16 on slide 18, due to the depth and duration of the economic downturn of our served end markets being greater than we originally anticipated and lack of visibility, we have revised our FY16 guidance.

The Company now expects FY16 total sales to decline in the range of 10% to 14% and organic sales to decline in the range of 6% to 10%.

Previously, total sales decline was projected to be in the range of 7% to 9% with organic sales decline of 1% to 3%.

Our effective tax rate, excluding special charges, for FY16 is forecast to be approximately 23% to 25%.

Our EPS guidance for FY16 is now expected to be in the range of $1.50 to $1.70.

Our sustainable cost reduction initiatives of $20 million to $25 million in the remainder of this fiscal year will partially offset the impact of top line softness.

Our guidance does not include the impact of the non-core divestiture, which is expected to reduce sales by approximately $125 million for the remainder of the fiscal year and was approximately $220 million for the full fiscal year, and we'll be operating EPS-neutral.

The divestiture is expected to be accretive to operating margins on closing.

As discussed earlier today, we continue to take aggressive actions to simplify our business processes and reduce costs, including streamlining our manufacturing footprint.

Over the long term, our responsible capital allocation process will include value-additive capital investments in the business, an additional debt repayment, as well as returning cash to shareholders through dividends and share repurchases.

We are focused on increasing our profitability, growing our top line, as well as maximizing our cash flows and returns.

We will remain focused on the productivity of our core businesses and reviewing our portfolio.

At this time, I would like to turn the call back to Don for closing comments.

Thank you, Jan Kees.

Several quarters ago, we outlined our plan to position the business to deliver improved performance and we are executing to that plan.

We are on track to achieve our cost savings objectives.

We announced the divesture of certain non-core businesses, significantly reducing our complexity, and we added strength and capability to our Management team.

Despite very challenging macroeconomic conditions, we remain focused on what we can control.

We are on track to realize permanent annualized savings of $115 million to $135 million through our restructuring programs.

We continue the process of bringing our cost structure in line with current economic trends and activity levels, including additional cost reductions of $20 million to $25 million, which are being implemented in light of the current trends.

And we'll continue to invest selectively and prudently to further strengthen the core through capital investment and continued investment in product innovation.

We are streamlining our office support functions, improving processes to deliver reduced G&A costs.

We believe the actions we are taking today will better position us to take share and accelerate growth as our cyclical end markets recover.

And I am confident Kennametal has significant earnings upside and shareholder return potential through the cycle.

Kennametal has been at the forefront of the manufacturing industry for more than 75 years, delivering innovation with value.

Our global team will continue to lead the industry and push the boundaries of material science to deliver solutions that win in the marketplace.

We would now be happy to take your questions.

(Operator Instructions)

And our first question will come from Julian Mitchell of Credit Suisse.

Hi.

Thank you and welcome, Jan Kees.

Thank you, Julian.

Hi, Julian.

Hi.

I guess my first question was just on the clean operating margins.

Just to check, am I right in thinking that the full-year guidance on EPS embeds flattish clean margins for the year as a whole?

Because they fell by about 600 points in Q1 year on year, so I just wondered at what point do you think we start to see them stabilize year on year this year?

Julian, it's Marty.

I'll take that one.

Consistent with what we said in July, from an earnings perspective, our historical splits were about 40/60.

As we talked about in July, we're expecting something much lower than first half, we're looking at about a 25/75 split in earnings.

And then sequentially, as we move through the year, you're going to see improvements in both sales, as well as the margins and EPS sequentially.

Got it.

Thank you.

And then just my follow up would be around the -- any extra color on the $0.20 to $0.25 of additional cost cutting?

Are there restructuring charges of a similar proportion this year?

Are those extra measures structural or are they more short-term items that the costs come back in whenever the top line starts to improve?

No, this would be structural.

They're limited severance costs relating to these savings actions that we have undertaken.

We're basically reducing the number of people in the organization.

We're also, how do you say, eliminating a certain number of positions for which we were recruiting and then we're eliminating a certain number of processes and actions that are providing cost savings going forward.

So these will be structural.

And the next question comes from Ann Duignan of JPMorgan.

Hi, good morning, this is Mike Conlon on for Ann.

I wanted to ask quickly, if you could provide color on your Europe markets; in particular, which of those are going to be down for this year?

Well, I think, first, to back up just for a second.

I think if you think about what -- I wouldn't say surprises -- but things that weren't as expected, Europe's a little better than we expected and the US ended up quite a bit worse than we expected.

Europe, we're seeing across the board.

It's just a little better than what we would have expected given the economic conditions that were forecast just three months ago or certainly six months ago.

I think we're holding our own on the share side, too, so that's helped us significantly.

The areas we believe are doing a little better are Eastern Europe.

Eastern Europe's doing a little better than we thought, but the rest is pretty much as expected.

Does that answer your question, Mike?

I think that helps.

And then could you just give us -- help us understand where you are in the strategic review?

Is it now completed with this divesture or where are we?

Yes, I believe that we've completed our major review of the businesses.

This divestiture will bring us to, I'll say, back to business as usual.

We're going to continue to review, as any Company would, but we have nothing right now that's planned.

And the next question comes from Stephen Volkmann of Jefferies.

Good morning, guys, and welcome back, Beth.

It's been awhile.

Thank you, Steve.

Great to hear you.

So my question actually was along those same lines, Don, but I'm curious where we are with respect to the restructuring of the footprint?

I think you had given guidance in the past that the overall footprint would decline, manufacturing footprint, I think it was -- please correct me, would decline 20% or 25%.

Are the current programs that you've announced, plus the 20% to 25% from today, does that get you to the 20% to 25% footprint reduction or is there more that we can still do here?

There is still more.

We're continuing to review.

As I mentioned, we just brought on board a new leader in manufacturing who is putting together his plans and we expect to have some discussion on this topic at our Analyst Day on December 15.

Okay, great.

That's helpful.

And then maybe just as my follow-up, I think you both mentioned the destocking at the distributor several times in your prepared comments and I'm just curious how much visibility you think you have there?

Where are these distributor stocks and inventories and how much longer would the destocking go on, in your view?

Thank you.

That's a great question.

Visibility is not great on this topic.

It's hard to see.

We've got a lot of color on the topic and we know that it's happening, but the degree and the timing is very difficult to put a number or a date on.

And that's one of the reasons why we mentioned in our prepared remarks, visibility is limited.

So I can't -- I actually don't have -- I can't give any guidance on that as far as timing or degree even going forward.

And the next question is from Andy Casey of Wells Fargo Securities.

Thank you.

Good morning and welcome.

First question relates to the non-core revenue divestiture announcement.

Does the operating earnings-neutral comment include the impact of debt reduction or is that just the impact from the divestiture, meaning the revenue is basically at breakeven?

That does not include the impact of the [back] debt reduction.

Okay, thank you.

And then could you bring us through the thought process behind the use of the $70 million proceeds and your reference to the debt reduction as opposed to allocating capital maybe to share repurchase, just kind of how you're thinking about it?

I think in terms of the overall debt to cap at 35% level, I think we're well-positioned.

We do want to make sure that, through the cycle, we remain in the investment grade bracket with our EBITDA-to-debt ratio.

So we'll work at it and reduce the outstanding debt to basically get firmly back into the investment grade target.

And the next question is from Michael Feniger of Bank of America.

Hey, guys.

Mike Feniger here filling in for Ross Gilardi.

Just a question, first off, we discussed inventories on distribution side, on the distributor side.

How are you feeling comfortable with your own inventories relative to the new lowered end user demand environment?

So we've been working on our working capital for the last three quarters and we will continue to drive that to more efficient levels.

So I would say that we're very comfortable.

In fact, our on-time performance, our service levels to customers actually improved over the last quarter.

So we're having no impact.

In fact, the impact is positive as we drop our inventory.

So we're getting much better at managing what we have and we see opportunities to continue down that path for the foreseeable future.

But your own inventory destocking, did it impact your margin this quarter?

Do you see that being a headwind going forward or do you feel comfortable with your inventory position currently?

It did, Mike.

This is Marty.

Within the quarter, it had about a 190 basis point unfavorable impact year over year on margin.

We do expect the full-year to come down year over year as we experience some of that second half of last year as well.

So overall, for the full year, we actually expect it to be neutral year over year.

Okay.

Perfect.

I was hoping you guys could give us some more help on sequential ramp we should see in the margin.

How should we really think about how that plays out through the next three quarters?

So, Mike, I think overall, as I said, we're going to experience sequentially improving margins as we move through the fiscal year.

I think for the entire fiscal year, we're going to expect maybe a little bit below double-digit EBIT margins there, but you can take Q1 and sequentially improve that throughout.

And next question is from Eli Lustgarten of Longbow Securities.

Good morning, everyone.

Let me add my welcome.

Quick clarification, revenue guidance, the $125 million divestiture, does the revenue guidance include that number or exclude it?

And is it all coming out of infrastructure?

Excludes it.

Starting in the third quarter, I assume.

Correct, yes.

The transaction is expected to close in the second quarter.

And does it all come out of infrastructure?

Primarily, yes.

The vast majority.

Can we talk about the two sectors?

You cited oil and gas as the biggest factor.

Can you give us the percentage of oil and gas to revenues in both separate and industrial and separate for infrastructure?

Because I didn't think oil and gas was that big in infrastructure.

What gives you the confidence in the second half ramp?

You're talking $0.26 in the second quarter and then $0.60 a quarter in the third and fourth.

Why would things step up that much, particularly when oil and gas spending isn't going to change, at least until the middle of next year?

I would say what we said the last quarters, what we can account for directly in oil and gas is about 8% to 9% of total company sales.

However, there are indirect sales that gets captured by general engineering and they have more of a secondary impact.

In terms of [the coal], we actually report that under the earthworks and the numbers, I would say, still around 20% of total Company sales.

And that is half/half for mining and half/half for construction.

So coming back to oil and gas, more specifically, we have a very, very low base to start from, starting in Q1 calendar year 2016 and into Q2.

We had already the rig count coming down significantly.

So in terms of our comparatives, our oil and gas, how do you say, influenced business, if that's the right term, will start to show some better comparatives.

That's where we are.

And our next question is from Steven Fisher of UBS.

Great.

Thanks.

Good morning.

I know you gave us the 25/75 and you said Q1 would be the lowest quarter for margins and things improved sequentially.

Correct.

But how quickly do you anticipate getting back to actual profitability in the infrastructure segment and what are the keys to that?

Is that just entirely cost savings?

We expect to get back to profitability in Q2.

Okay.

And is that just all from cost savings?

Portfolio reallocation and cost savings, yes.

The top line is also going to be increasing there, too.

And top line.

Okay.

That's helpful.

And then if some combination of the House and Senate highway bills were passed in the next few weeks, what do you think that would do for your organic growth in FY16 and FY17 and have you had any discussions with customers about that?

I think at this point we would probably say limited, given the timing and our fiscal year.

And now we have a question from Adam Uhlman of Cleveland Research.

Hi, guys.

Good morning and welcome, Jan Kees and Beth.

The first question I had was on the tax currency and other savings of $0.20 to $0.25 that's forecast for the year.

You gave us the tax piece, but help me understand a little bit better about why currency earnings are going to be a little bit better and what the other savings piece is.

Yes, Adam, I'll take that one.

From a currency perspective, as you will recall in July, we were expecting a $0.30 to $0.35 unfavorable impact year over year from currency.

Our assumptions on the euro, I would say, compared to where we're forecasting now, we're forecasting a better euro, so it's actually improving as you compare to the prior guidance.

So that's the majority of it.

Okay.

And then could you talk to pricing that you're seeing in the market right now?

How much of a revenue headwind, if at all, overall for the Company that you're seeing?

And then maybe talk separately about raw material cost savings, if any, that you're seeing now, what your assumptions are for the remainder of the year?

So our assumptions remain that we will be a net positive for us going forward, that we will outperform pricing versus raw material declines.

As far as the impact on revenue, it will continue to be a factor, but not a driver, compared to the other things that we've mentioned.

And our next question is from Cliff Ransom of Ransom Research.

Good morning, thank you very much.

Hi, Cliff, good morning.

When destocking cycles occur, they're often violent.

But when they come back -- and they come back for two reasons, they come back, one, because at some point, inventory stabilizes to actual production, even if at a lower base.

But when it comes back, it tends to come back, particularly in oil and gas, equally violently, meaning upward.

How confident are you -- I'm in the asking for a timetable, I'm asking for when this business turns, that with this restructuring and this focus on inventory you'll be able to maintain your service standards?

Cliff, this is a hot topic for us internally.

We'll let you know that some of the investment that we have slated, our capital expenditures are up this year, and some of it is in raising the productivity of the plants we have left so that we can handle that surge in demand when it happens.

So our intention is to be ready.

We're well within our planning sights right now.

So when that turn comes, we're going to be ready for it.

Cliff, we're reinvesting in the core, and oil and gas is clearly part of our core.

Okay.

Thank you.

And the second question is, look, I've been following your Company for too long to even talk about it any more, but you guys are both new there.

My impression has always been that the culture of Kennametal did not have a high sense of urgency, that restructuring, reformulation, strategic planning seems to take a very long time.

Don, in your short tenure, would you care to comment on that topic?

I will point you towards the dramatic changes that we made in working capital.

I think if I might draw your attention to our ability to drop working capital over the past three quarters has been dramatic.

We've taken action when we needed to.

This is difficult to do.

There are major companies out there that struggle with this.

Working capital is definitely a team sport and it's something that requires a whole lot of sense of urgency throughout the organization.

And I think we've united the team in understanding how important that factor is.

Second is, we continue to execute extremely well on our restructuring.

We are exactly where we thought we'd be just eight months ago, driving that program and making sure that we deliver on that item.

So I think when you look at the key initiatives that we have in place, we are executing, and we are delivering the results that we expected.

The headwinds that we're running into in the markets are unfortunate, but we're reacting to those also.

We announced another $20 million to $25 million in cost out and you'll se us execute and deliver in this fiscal year.

So I'm not sure about the past, but I can tell you about the future.

We execute with a sense of urgency and we deliver on our promises.

We announced just six months ago that we would do a portfolio simplification.

We executed on that.

So we're moving forward.

We're taking steps to improve the long-term performance of the Company and I think you'll continue to see excellent execution going forward.

Thanks for the question.

Definitely a shift from the past.

Our next question will come from Rudy Hokanson, Barrington Research.

Thank you.

I believe when you first came, Don, you were talking about looking at opportunities to maybe reposition some of the capabilities of Kennametal, looking at maybe new markets or applications.

And I was wondering where you would say you are right now in terms of that part of a strategy?

I'm sure we'll have more to talk about on our strategy when we get together on December 15.

But what I do see is the tremendous investment that we've made in innovation in the core markets, whether it be innovation on unique and different powder formulations, unique and different processes, or unique and different design of products, clearly creates the opportunity for us to grow and focus on the core business that we have left after divesture.

We'll definitely create opportunities for us.

We've also invested in NOVO, a very unique and different way of thinking about how to help our customers to drive productivity and increase their success with their customers.

So I think, quite frankly, we have an awful lot to build on here to grow in our core.

So we'll be talking more about that in December.

Okay.

So, it's -- this might be the obvious, but you've been paying attention to that as well as issues of cutting costs and downsizing?

Yes, absolutely.

We look at -- we're looking for opportunities to expand our margin by reducing our costs long-term and driving growth in the core, absolutely.

Okay, okay.

Thank you.

I look forward to December.

And the next question is from Steve Barger of KeyBanc Capital Markets.

Good morning.

I'm going to follow up on that last question a little more specifically.

You've been clear about how you've reacted to weaker end markets from the cost side, but as you think about the decline in organic sales, can you talk about how your view on direct versus indirect sales efforts has been evolving or how you're engaging the sales force?

Well, we've definitely implemented, as I mentioned a couple of calls ago, we've implemented a new customer relationship management system, a CRM system, that is world class and has been rolled out to two regions around the world.

We're starting to see the benefits of that with a clear view of our pipeline and the ability to better identify targets and opportunities.

So there's one example of investment.

We're also, in a very strategic way, adjusting our commercial force and the way that we go to market.

In some markets where we have longer cycles, like mining, we are adjusting our commercial workforce appropriately.

In other cases where you have, in our mind, a much faster cycle, like oil and gas, we're actually investing for success there because we think that when that comes back, it's going to come back fast and furious and we want to make sure that we're very well-positioned there.

We have high share and we intend to grow that share.

Did that answer your question?

Well, I guess, what does investing for success really entail?

What does that mean?

Well, it means making sure that you have the right commercial force in place for the right customers and I think CRM speaks for itself.

Okay.

Last question, you've made several mentions of being well-positioned for end market recovery, given the right sizing, but also, the visibility remains low.

Internal forecasting has always been a challenge for Kennametal.

Can you talk about how the Company has changed its approach to forecasting so you can have that correct capacity response?

I think forecasting is difficult in this short cycle business.

CRM will improve with regards to the funnel it provides in terms of opportunities.

And as our sales teams start working with that, it will get better.

However, we have a better aligned S&OP process between the sales teams and the manufacturing facilities and so some of these historical, how do you say, differences that we had between manufacturing and the sales teams, we've done a lot of work on improving those.

I think the other thing I would say is that crisper execution has been the mission here for the past eight months and certainly, getting a better handle on forecasting is part of that.

I might draw your attention, we did hit, back in the last two quarters of our FY15, we did put together an adjusted range and we hit that range right on the money.

So we demonstrated that we've improved versus the 10 prior quarters and we're going to continue to get better.

At this time, we will conclude the question and answer session.

I would like to turn the call back over to Beth Riley for any closing remarks.

Thank you, everybody.

We really appreciate your time and your interest and I look forward to speaking with all of you in the near future.

Have a great day.

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