Mettler-Toledo International Inc (MTD) 2012 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to our fourth-quarter 2012 Mettler-Toledo International earnings conference call. My name is Alan and I will be your audio coordinator for today. All lines have been placed on mute to prevent any background noise. After the presenters' remarks, there will be a question-and-answer session.

(Operator instructions)

I would now like to turn our presentation over to your hostess for today's call, Ms. Mary Finnegan. Please proceed, ma'am.

Thanks, Alan, and good evening everyone. I am Mary Finnegan, I am the Treasurer and responsible for investor relations at Mettler-Toledo, and I'm happy to welcome you to the call. I'm joined here today by Olivier Filliol, our CEO; and Bill Donnelly, our Chief Financial Officer. I want to cover just a couple administrative matters. This call is being webcast and is available for replay on our website at www.mt.com. A copy of the press release and the presentation that we refer to on today's call is also available on our website.

Let me summarize the Safe Harbor language which is outline on Page 1 of the presentation. Statements in this presentation which are not historical facts constitute forward-looking statements within the meaning of the US Securities Act of 1933 and the US Securities Exchange Act of 1934. These statements involve risks, uncertainties, and other factors that may cause our actual results, level of activity, performance, or achievements to be materially different from those expressed or implied by any forward-looking statements. For a discussion of these risks and uncertainties, please see our discussion in our recent Form 8-K. All of the forward-looking statements are qualified in their entirety by reference to the factors discussed under the captions Factor Affecting Our Future Operating Results in the Business and Management Discussion and Analysis of Financial Condition and results of operations in our Form 10-K.

Just one other item. On today's call, we may use non-GAAP financial measures. More detailed information with respect to the use of and differences between non-GAAP financial measures and the most directly comparable GAAP measure is provided in our 8-K. I will now turn the call over to Olivier.

Thank you, Mary. I will start with a summary of the quarter and then Bill will provide details on our financial results and our updated guidance for 2013. I will then update you on our execution focus in this challenging macro environment. As always, we will have time for Q&A at the end. The highlights for the quarter are on Page 2 the presentation.

Local currency sales increased 2% in the quarter. Similar to what we experienced in the third quarter, we had solid growth in Americas and Asia/Rest of the World but the sales declined in Europe. Our earnings benefited from proactive cost measures. Specifically our actions in pricing and cost control benefited margins and drove a strong 20% increase in adjusted EPS in the quarter. I am pleased with our execution in the quarter and the continued progress on our strategic initiatives.

Uncertainty remains in the global economy today and we expect conditions to remain challenging in the first half of this year. However, with the benefit of the cost control actions and our margin initiative, we expect to have solid EPS growth in 2013. Let me now turn it to Bill who will provide an update on our guidance for 2013, as well as cover the financial results.

Thanks, Olivier, and hello, everybody. Let me start with additional details on sales which were $657.3 million in the quarter, an increase of 2% in local currency. On a US dollar basis, sales increased by 1% in the quarter, which included a negative 1% impact due to currencies. Turning to Page 3 of the presentation, we outline sales by geography. In the quarter, local currency sales increased by 5% in the Americas and 6% in Asia/Rest of World, while sales declined by 4% in Europe. On the next slide, you'll see that for the full-year 2012, sales increased by 4% in local currency. Breaking that down by region for the full year, sales increased by 5% in the Americas, and 10% in Asia/Rest of World. Sales declined by 2% in Europe.

Acquisitions contributed approximately 2% to European sales growth for the full year and approximately 1% to total sales as well. On Slide number 5 of the presentation, we outlined our sales by product area. In the fourth quarter, lab sales increased by 4% and industrial sales increased by 1%, while food retailing was down 1%. The next slide provides full-year sales by product area. In 2012, laboratory sales increased 5%, industrial sales increased by 4%, and food retailing declined by 4%. Acquisitions contributed approximately 1% to industrial sales growth for the year.

I am now turning to Slide number 7 of the presentation where we show our P&L. Let me walk you through the key items. We are very pleased with our gross margins, which were 54.3% in the quarter, a 90 basis point increase over the prior year. We benefited from pricing and lower material costs. This benefits were offset somewhat by a negative mix, both geographic and by product. While mix was slightly negative overall, it was better than the mix we saw in the first half of this year.

R&D amounted to $28 million, a decrease of 6% in local currency. SG&A amounted to $175.4 million, a 4% decrease in local currency as compared to the prior-year quarter. Lower variable compensation was the principal driver which accounted for approximately a 6% decline in SG&A as compared to the prior-year quarter. We also benefited from our cost measures implemented earlier in the year. Partially offsetting the decline in expenses were additional investments made in emerging markets, as well as our field turbo program, which we spoke about earlier in the year. Adjusted operating income amounted to $153.4 million, which represents a 17% increase over the prior-year amount of $131.7 million. Our operating margins reached 23.3%, a 300 basis point increase over the prior-year level. Given the environment, we are very pleased with our operating income growth and margin improvement. A couple of final comments on the P&L.

Amortization was $5.6 million in the quarter. Interest expense was $5.7 million. We lowered our annual effective tax rate before discrete items to 24% for the quarter and for the full year. This is comparable to the 24% effective tax rate we had in Q4 of 2011 and the full-year 2011. However, it was below our guidance of 24.5% and the rate we used or recognize during the first three quarters of the year.

Fully diluted shares for the quarter were $31.3 million. Adjusted earnings per share was $3.47, a 20% increase over the prior-year reported amount of $2.88 per share. We are very pleased with this strong earnings growth, particularly given the modest sales growth. On a reported basis, earnings per share was $3.35 per share as compared to $2.91 in the prior year. Reported earnings per share included pre-tax restructuring charges of $5.4 million, or $0.13 per share. Reported EPS also includes $0.03 of purchased intangible amortization and a $0.04 benefit from the catch-up of the reduced tax rate for the first three quarters of the year.

The next slide summarizes our full-year P&L. As I mentioned, local currency sales increased by 4% for the year. Our gross margins reached 53% while our operating margins increased 170 basis points to 19%. Adjusted earnings per share was $9.67 per share, a 16% increase over the prior-year amount of $8.36 per share. Given the challenging operating environment we encountered during 2012, we are very pleased with these results.

Now let me turn to cash flow. Free cash flow in the quarter amounted to $93.7 million, as compared to $77.9 million in the prior year. On a per share basis, this is an increase of 25%. Our DSO was 43 days, while our [ITO] was 4.9 times on an LTM basis. In particular, we are pleased with this improvement in our inventory turns. For the year, free cash flow was $254.5 million or $8 per share, which is a 29% increase over the prior year. During the quarter, we repurchased 396,500 shares for a total dollar value of $70.8 million. For the full-year 2012, we repurchased 1.6 million shares, for a total dollar amount of $278.7 million.

We remain on track with regard to our cost control measures that we announced in the second quarter. As a reminder, those measures include the transfer of certain functions to lower-cost countries, workforce reductions, and rationalizations of certain operations. We expect total restructuring charges to reach the $20 million to $25 million range and it is primarily made up of severance costs. In 2012, we incurred $16.7 million of restructuring charges. We remain comfortable with our target to reduce operating costs by approximately $40 million annually when the program is completed. However, because some of these initiatives will take time to complete, we will not get the full benefits until the end of next year.

The economic environment is playing out pretty much how we anticipated when we spoke during our third-quarter call. We continue to believe that the first half of this year will be challenging with sales growth below normal levels. As we look to the second half, with the benefits of improving economic conditions, in most if not all regions, as well as easier comparisons, we would expect to show better sales growth levels. We recognize that economic data released since our last call has been relatively positive. The PMI numbers from China are just one example. We're not surprised with this improving data and we believe that we will eventually benefit from it. However, our business does tend to be late cycle and therefore we will likely see better results in the second half of this year.

Given this all as a backdrop, let me cover the specifics of our guidance. We now expect full-year local currency sales growth to be in the range of 1% to 3%. We have slightly lowered the top end of our previous range, which had assumed previously a growth of 1% to 4%. This is principally driven by how we see the first quarter coming out, which I will cover in a moment. For the full-year 2013, we expect adjusted earnings per share to be the range of $10.30 to $10.55. This compares to previous guidance of $10 to $10.30. For the first quarter, we would expect constant currency sales growth to be in line with the prior year. I realize that this is lower than what we achieved in Q4, however, the guidance reflects the late cycle and short cycle nature of our business. Perhaps most importantly, the guidance reflects the fact that we begin this year with a lower level of backlog than last year.

Many of you will remember that when we commented on the first quarter of last year, we said that sales growth was greater than order growth. I expect the opposite in Q1 this year. Sales in constant currency will likely be flat, but I expect order growth -- orders will grow modestly. Given this sales assumption, we would expect adjusted earnings per share to be between $1.75 and $1.80 during the first quarter.

A couple of additional points to cover with regard to the guidance. First currencies. We would expect currencies to reduce sales growth by approximately 1% in the quarter. For the rest of the year, we would expect no impact in Q2, a slight positive impact in Q3, and a slight negative impact in Q4. For the full year, we do not expect currencies to impact sales growth overall. Now looking at the impact of currencies on operating profit. We are facing as of today a little headwind for the full year. In terms of the Swiss franc/euro, we are relatively neutral given the hedges we have put in place. As a reminder, we have hedged approximately 75% of our $100 million Swiss franc to euro exposure. However, we are getting a little hurt with the Japanese yen and Swiss franc versus the dollar. In total, currencies will reduce earnings per share growth by about 1% for the full year. This is based on current exchange rates.

A couple of additional points. We have assumed an effective tax rate of 24% for 2013, and that all free cash flow will be used for share repurchases. One last comment. Some of you have said that it is difficult for you to judge how earnings per share growth will be by quarter this year. Specifically, you wanted to know how will the stronger sales growth in the second half of this year versus the first half interplay with the timing of our cost measures, the impact of higher incentive comp, and various other factors. It is also difficult for us to forecast precisely by quarter, but our expectation is that earnings per share growth during the period from Q2 through Q4 will likely be in the 8% range, that being the mid-point of our full-year guidance. So while sales will be backloaded in the year, EPS growth will be relatively consistent throughout.

We will provide, of course, more specific guidance in upcoming calls, but I thought these general thoughts may be helpful to you, as I know many of you will be updating your models. Okay, that covers my comments on guidance and I want to now turn it back to Olivier.

Thank you, Bill. Let me start with some [of my] comments on business conditions. Lab grew 4% in the quarter with good growth in balances and electrical instruments and strong growth in Process Analytics. Pipettes also had growth while Automated Chemistry was down. For the year, lab sales were up 5% and I continue to feel good about our market position. Industrial was up 1% in the quarter with Product Inspection up low single-digits and core industrial flat with prior year. Core industrial was down in Europe and the Americas and up modestly in Asia and Rest of the World. Product Inspection did very well in Asia and Rest of the World and had growth in the Americas but was down in Europe. I also point out that industrial had strong comparisons from the prior year. As expected, retail was down in the quarter with strong project activity in the United States, offset by declines in Europe and Asia/Rest of World.

Now looking at geographies. Europe was down 4% in the quarter, a little better than we expected the last time we spoke. Retail was down double-digits with modest declines in lab and industrial. Americas was up 5% of the quarter, a little better than expected driven by strong project activity in retail. We had good growth in lab and industrial was up slightly in the Americas in the quarter. Finally, Asia/Rest of the World was up 6% in the quarter, pretty much on track with what we expected. Lab had double-digit growth while industrial had mid-single-digit growth and retail was down. That covers my comments on the business.

Although market conditions are challenging, we believe we can continue to grow faster than our underlying markets. Execution is key to achieving continued share gains. Let me provide some examples of our focus areas for 2013. Our sales and marketing programs reflect the continuous improvement mentality of our Spinnaker philosophy. Through this, we are able to move sales and marketing to higher levels of excellence. As you saw in 2012, we have shown our ability to adapt our programs to a more challenging macro environment and ensure that our front-end resources are directed to best opportunities in the markets. As we move into our fourth wave of Spinnaker marketing initiatives, we expect to continue to innovate and expand our sales and marketing efforts.

Service tends to do better in times of economic weakness and has the additional benefit of keeping us in close contact with our customers, especially in regulated environments such as food and pharma. In 2013, in conjunction with our Blue Ocean program, we will continue to globalize our service business, which will further our efforts to increase service productivity and efficiency. We are also focused on increasing the sales of services at the point of instrument sale. For example, providing standardized service quotes with product quotes and continuing our efforts to globalize our service offering are important to increase the service attachment rate.

Launching innovative new product is critical to expanding our market leadership. Important as well are the integrated marketing campaigns for product launches. We have a strong product pipeline, including an enhanced offering for basic weighing and laboratory, new entry-level titrators, rubber solutions for industrial hazardous applications, and a new platform for x-ray, to name just a few. We believe these products will allow us to continue to gain share.

2012 marked our 25th year of manufacturing operations in China. We have an excellent market position in China, as well as our other emerging market countries. We consider these leading positions a competitive advantage given the growth expectations for these markets in the years to come. We will continue to expand our presence in China, as well as we move into more second-tier cities. Our emerging markets presence is much broader than just China. We will continue to grow our presence in these other emerging markets as well.

As you heard from Bill, we made great improvements in our margins in the fourth quarter. We believe we have additional levers to pull to continue our strong track record. Pricing is one lever and execution is key to our accomplishments in this area. While our price increase for 2013 will be lower than 2012, it was still be an important contributor to margins. Supply chain initiatives surrounding low-cost [count] resourcing, supplier consolidation, and various product [depot liberation] efforts will also be important contributors in 2013. Our margin initiatives also include an increasing number of lean initiatives to improve productivity in manufacturing and other processes.

Finally, we believe that our Blue Ocean program will provide the foundation for further margin improvements at Mettler-Toledo. We have begun to see initial benefits in our Chinese and Swiss operations in terms of more transparency and integration in our supply chain and improvement in inventory turnover and benefits in other areas. While we won't gain full benefits of our Blue Ocean program until more worldwide operations have completed implementation, we are pleased with the progress today.

In 2013, we are very focused on operational initiatives so that we will continue to make significant investments for the long-term. We continue to make important investments in employee training and leadership development, product development, and front-end resources in emerging markets. We will also achieve another milestone with our Blue Ocean program as the majority of our operations in US will go live in the first half of the year.

In summary, our markets are challenging but we believe we can continue to execute well. Our cost structure is in good shape today, but we will continue to closely monitor the environment for signs of further slowing. We expect business conditions in China and our other emerging markets to improve later in the year. The West is primarily a replacement business. We know customer can be [fair] but ultimately they will need to replace their instruments. It is important that we stay in front of them so we have the opportunity when they do purchase. While we are concerned with the global environment, we feel good about our market position and ability to execute our strategic initiatives. We believe we can grow faster than our underlying markets and continue to gain share. We also believe we are making the necessary strategic investment for our long-term growth.

That concludes my prepared remarks and I want to ask the operator to open the line for questions.

(Operator instructions)

Tycho Peterson, JPMorgan

Maybe just first question on the guidance adjustments. Bill, I understand your comment on the first quarter about sales being flat but orders growing a little bit modestly. Just talk about how much of that varies by geography? Is this an assumption that Europe is going to get a little bit worse in the first quarter here?

Actually it is probably as much China as anything. The reduced backlog we had is almost completely attributable to Chinese industrial. And if you go back to our Q1 call a year ago, we talked about that impact that that had in terms of last year's Q1 sales being a little bit more than orders. We would expect to have actually halfway decent order growth -- halfway decent -- better order growth in China, but relatively flat sales growth. Let's say low to mid-single-digit order growth in China. But sales growth to be flat and we will end up with more backlog than we had before. So we feel that China is for us, pretty much bottoming out. We'll see what happens more broadly economically. But with our late cycle industrial stuff, we now see in terms of lead regeneration and other topic that things are already going better. Some of the things that you guys see in external economic factors, we start to see internally in the business, but it won't necessarily translate to sales growth we think until the second quarter.

And then maybe just rounding out the geographic commentary. US trend -- some of your peers have baked in sequestration assumptions. Can you just talk about what you are assuming of the US market here for the year?

In terms of the -- first, our business in total is maybe not as exposed us some of the peer group companies in terms of that topic. The exception would be our pipette business and we would expect to have modest gains in our non-government -- modest growth in our non-government-related, government-funded-related pipette business, pretty much offsetting what we see in the rest. And we're not looking at double-digit declines, but modest declines in some of the academia and government-funded areas.

Okay, thank you very much.

Jon Wood, Jefferies.

Thanks a lot. Good afternoon. So Olivier or Bill, could you call out the China numbers in the quarter? And Bill from your last comment, it just sounds like what has changed is China inflects a little bit later in 2013 than you might have thought last quarter. Do you still expect double-digit growth in the second half of '13 in China?

So let's quickly go and look at the China number in the quarter. So China grew 3%. This was a little lower than what we expected when we spoke last time. Lab continued to do well, with double-digit growth, while industrial growth was low-single-digits, and retail was down. We do expect that Q1 will be in a similar situation and maybe even a little bit worse and then Q2 becoming better as Bill highlighted before. And it going to certainly take into the latter part of the year that things improve. We see early indicator like quote activity and leads generation that support this. But being late cycle, we will certainly depend on that. What we also see is that government changes that we had in China takes a while until we benefit from this. We also expect now another end of the first quarter where government will confirm their midterm five-year plans that will also give us more clarity where we have our growth opportunities. The team is reacting very well but fact is the rebound of China for us takes a little bit longer than we expected, for example what we expected last term.

One other thing I would add and maybe this is as much, Jon, in response to Tycho's question as yours is, the other thing and I had not focused so much that between Q1 and Q2, boy, at least the way we measure working days, you have about 2% less working days in Q, about 2% more in Q2, and it is balanced for the full year. That a little bit impacts it. But in terms of the adjustment on the top line, it has more to do with how we see backlog here as we enter the year.

Okay, good color. And then Bill, could you go through the major gross margin buckets? Obviously pretty good in the fourth quarter. And then any changes you see in that raw material pricing mix bucket for '13 at this point?

Sure. So again on a weighted average basis across the business, we finished -- the fourth quarter had a 2.9% net realized price increases. That helped the gross margin about 140 basis points. And then material costs were down 2.4% for the quarter, which was just short of 2% for the full year. And that translated in the quarter to about a 60 basis point improvement. And of course that adds up to more than what we showed and what is left over is what I would describe as mix and other to get the 90 basis points. Now in terms of the trend, we would expect maybe not 90 basis points in Q1, but we have built into get to the EPS growth we described -- we built in about it about 70 bps of gross margin improvement in the first quarter. So a continued good trend. The first couple quarters of the year should continue to have, let's call it, outsized versus our long-term trend on gross profit margin, closer to the second half trend than the first half of last year because there is some comp topics as well and then that will more moderate in the second half. Our material costs, we feel pretty good about material costs, at least for the first half of the year. What will be interesting to see is as with these PMI numbers and other topics improving in China, you could start to see raw material inflation starting in the summertime. But we feel like we're on top of the cost structure currently and top of the margin topic and that should be good for the next couple of quarters while we have some our modest sales growth.

Great. Thanks a lot.

Dan Arias, UBS

Thanks and good afternoon guys. Bill, you guys look like you're seeing the benefit of the cost action here. I'm curious whether what you've done so far has been more focused on shifting operations to different regions or more taking down headcount and rationalizing some of the business?

[So maybe we call] end of Q2 last year, we recognized that things will get more difficult. And so, we initiated two programs in parallel. One program was expanding on something that we had started already earlier to respond to the strengthening of the Swiss franc, where we addressed more structural and fundamental things in our business. Where we also looked at ways to move certain positions in lower-cost countries, outsourcing certain functions, and go a little bit more fundamental at these things. But of course these are demanding projects, need very good preparation, and accordingly also takes multiple quarters until we have the full benefit. In parallel, we launched also in Q2 a broader cost management initiatives that went pretty much across the world, across all the units in basically reflecting also the lower expectations in revenue growth for the remainder of last year, and certainly also for this year.

These programs that we launched with the second program were faster to be implemented. Most of that is done. It is performance-based topics. It has offered certain headcounts. But it is very much across units across the world, more focused of course Western units, it is actually dominantly in the western units, certainly also in Europe. So these two programs, I definitely feel that we are benefiting from them, not just in the short-term, also in the long-term. It is making us more cost competitive and allows us to afterwards reinvest in the business when the markets pick up again. That allows us to do strategic resource shifting. For example, if our business picks up again, we are going to invest in emerging markets in a more forceful way. As the western market, of course, we are going to continue to be very cost conscious.

The bigger -- maybe, too, Dan -- some of the bigger projects, they take longer to implement. So some of the things we work on this year, even into next year are some of the more complex ones as well. So there is still work to do in the program.

Okay. Thanks for that detail. Going back to the gross margins, just given the disparity that we are seeing here between Europe and the Rest of the World, are you thinking any differently about the way that that dynamic impacts margins in '13 than you did last time? Or is the outlook for that generally the same as it was in 3Q?

In the first half of the year, we will probably see a trend that is somewhat similar to -- we clearly -- part of the price increase and the material cost numbers impacts our margins add up to more than the total margin. So a big part of that negative mix is actually European-related. If we -- in our European business as we have spoken many times is largely replacement in nature, and so we will get to -- we will see the benefits of easier comp in due course and get a better mix there, but we still have a couple of quarters yet of that mix topic. The other area where we sometimes have mix topics is as emerging markets pick up. So China is -- our lab products have higher gross profit margins than our industrial products and China has of bigger mix of industrial. So as that starts to pick up, that will be a little bit of a -- will have some impact on the second half as well. But at least for the next couple of quarters, we think long-term margin is going to be a good story, but maybe the next couple of quarters will be especially good.

Got it. Okay, thanks very much.

Paul Knight, CLSA.

You had talked about the emerging markets outside of China being a priority. Which are the most important to you?

So if we look at the emerging markets, 50% of it comes from China and then the other 50% comes from multiple countries. Actually we have a whole group of countries, including India, Brazil, Russia, Southeast Asia. They are all in the range of 1% to 3%. But all actually very nicely contributing to the overall mix. But none of the other ones would particularly dominate. And to give you a little bit of flavor about how we performed on these ones, we had Brazil, for example, that did very well in Q4. We had Southeast Asia that continues to do very well. Eastern Europe was up modestly. Russia was, however, down.

And could you, Bill, quantify the currency impact of last year and what you expect this year in total?

So, let me start with the top line. So for the top line on a full-year basis, currency has reduced sales by let's call it 2.6%. And then in terms of 2013, it is practically 0% but with some headwind in the first quarter basically offset by a benefit in the third quarter. 1% each.

And the EPS total? I'm sorry?

So on the EPS on a full-year basis, we had about a $0.5 million, so think about that as a $0.015 for the full year. And as a reminder, we had a big plus in Q3 and the rest of the quarters we had relatively smaller minuses. It is actually a bigger number next year. It is a headwind of about $5 million before tax. If you want to put a tax rate on that, that is maybe something in the area of $0.12 per share. One of the bigger changes that you guys know is related to the yen but it is a few other factors as well.

Okay, thank you.

Jon Groberg, Macquarie.

Thanks for taking the question. So, Olivier, you mentioned that you thought the price increase would be a little bit less in '13. I'm sorry, I did not hear the quantification. Bill, you quantified what it was in '12 but what do you expect it to be in '13?

So we expect 100 to 150 basis points for 2013. This is less because, as we talked on it last year with you guys, we had lot of attention to it. We did media price increases before and we certainly benefited from an environment that had a certain inflation that allowed us to go for higher increases. This year [we] feel that the environment is more challenging to go with too high price increases because there is not real inflation on a worldwide basis and material costs are not necessarily going up. So that is why we feel this year it's going to be more modest.

And Bill, from your comments on the materials cost for the year, you expect them to be flattish? Is that what you are currently expecting?

It should even -- we will do a little bit better than flattish, unless the impact of material like steel due to China is really strong in the second half. I would like to think that maybe not the 2% benefit we got this year, but a 1% benefit is realistic.

Okay. And then just if you -- the operating margin line or EBITDA line if you want to, what are you expecting? I'm just trying to see from -- playing with the numbers here. But what are you expecting at the EBITDA line in terms of margin expansion? And if I can briefly, what is your expectation for share counts given your stock keeps going up?

Sure. So we should get about 500 basis -- or sorry a 50 basis point, sorry -- 50 basis point increase in our operating margins, the way Mettler measures them. And if you think about that in terms of incremental margins, you are talking about 46% or let's call it mid-40%s or so and then actually on a currency adjusted basis, it is probably even 10% more than that. In terms of outstanding shares, by the end of the year, we should be around this level of 30.9 million shares or so. And that is about a 3% decline versus the average of this year.

Great. Thanks a lot.

Ross Muken, ISI Group

Hello guys. So I just want to get back to the revenue line and the order trends or at least what you saw in terms of the pacing throughout the quarter. I'm just -- given the macro backdrop you laid out and what most of the figures are looking like and what a lot of broad customers across even the industrial complex are talking about, it is clearly a better picture there. I know you are later cycle, but did you see something with the orders? Was it the chunkiness? Was it certain parts where maybe there was very specific lack of visibility? I'm just to get a sense for what has changed over the last two, three months since the original take. And how that has trended directionally through the end of 4Q and then the very early part of 1Q, although I know it is not a great indicator because it is January?

I am going to get to the different pieces of your question Ross, but come back to me if you think I missed it. So from our point of view, we finished the year with less backlog than we expected. Sales, as you know, in Q4 came in a little bit better. Orders maybe were modestly worse but the combination when we looked at things, we're starting this year with let's call it $25 million to $30 million less backlog than we had a year ago. And if you translate that into a sales number, you're talking a little bit more than 1%. And if we look at actually our lead numbers, we actually feel relatively good about the recent trend, particularly the one place we were most anxious on was China. We do think that we are going to have -- what we saw in January was excellent -- but we should not jump to too many conclusions.

I'm sure you guys heard from other people that the Chinese New Year is moved to February. Last year was January. But our order growth was very good. But even adjusting for that impact what we saw in January was probably not so bad. And pointing to this trend that we would expect order growth to be better in Q1 in China than sales growth and actually that is really a statement for the whole Company, but in particular, driven by what we expect to see China. So, really the thing that triggered it mostly for us is that we finished with a little bit less backlog. We recognize what despite having some modest order growth in the first quarter that the sales growth is realistically going to be flattish and when we translated that out for the full year, we decided to move the mid-point of our guidance down by about 50 basis points for the full year.

Just on the full-year, which is what I was more referring to versus Q1 because I understand the dynamics there, where are the puts and takes in that level of assumptions? Because again, I realize what the near-term trajectory looks like but one would think, given the macro, there [totally] some upside optionality in the back half forecast? And so, if I paint a picture where China continues to gradually improve at the rate we have seen and the US holds in there and Europe gets no worse, where do you see the most sensitivity in the business to where if we look back nine months from now we were like, wow, that ended up being a lot better than we thought?

You could make a [bull bear] case for pretty much every region. And in the case of, let's say, the western world, it is the different governmental risks that are out in both sides of the pond go away and that -- or, let's say, don't come to the forefront, and investment cycles improves. And as a late-cycle Company, we benefit from that more in the second half. And our customers, because our business there is lot replacement cycle that they return more quickly to their normal replacement cycles, then that would be the upside in that part of the world. In China, it is very much that things pick up a little bit faster than we anticipate. That us thinking that we are mostly not going to see this until the second half, we start seeing more in the second than we expected to and it is a little stronger in the second half. If you think about, if we start out flat, Ross, in Q2, one way to get to the full-year high end of the guidance would be a 0%, 2%, 4%, 6% progression by quarter. And to us, that seems, sitting here today, that would be a good accomplishment from where we are now. So sitting here today and Mettler is the way it is on guidance, maybe with our relatively small backlog, we have a tough time projecting that optionality you described. Although we certainly understand the point. And sitting here today, we think that that is probably a reasonable expectation.

Sounds good to me, Bill. Thanks very much.

Sung Ji Nam, Cantor.

Hello thanks for taking the questions. So going back to Ross's question, in terms of your better outlook for the second half or latter part of the year. Is that really largely driven by China? Essentially? Or I am just tying to get a sense of--?

No, we think the comps get easier in the west. So we think we will be reporting better growth rates in the second half in every region. Really, I apologize, and sometimes these calls -- if our explanations got off track. The adjustment to show 0% sales growth in Q1 would somehow translate a little bit to us moving the mid-point of our revenue guidance down by 50 basis points. China was maybe the biggest impact on that. It's the -- in general we see that the second half will be better in all regions. We think that the comps get easier in all regions. We think that generally the economy will be improving in all regions and we think in China there is the additional impact that some of the government-related projects we expect to see more benefits in the second half of the year.

Okay, great. And then in the past you have talked about roughly 30% of manufacturing coming from low-cost regions and 40% of sourcing from low-cost regions. Was wondering, after the current cost control measures, after that has been completed, would that change those numbers significantly, or--?

Not that significantly. What you see is that every year the number goes up by a few points. This is a continuous and a gradual thing. It is not that we are moving a whole plant or so through this restructuring to a low-cost country. Actually, in contrary, what we are little bit more focused now is on certain services to move services. We do [30] more out of low-cost countries. So it does not necessarily impact the manufacturing and the [costing] ratio. But a few points, yes, but it is not big wave or a big shift.

Okay. And then if I could squeeze in one more. Olivier, you talked about that you guys had identified some cross-selling opportunities within your pharma end market, so I was wondering if you could maybe talk about that end market? It is roughly a quarter of your sales and I know crosses both the lab and the industrial businesses. But just curious as to how that segment and market is performing?

When we look at this market, we look at relatively broad but often the question is referring to pharma and when we think about pharma, often we think big pharma. The big pharma market is not particularly robust and has certainly it's challenges. But the way we need to look at it is account-by-account. Certain accounts continue to invest, certainly also invest in automation solutions. There is also good demand for compliance-related upgrades and investments. But then again it is target or account-specific. But then that there is other life science accounts like CROs, biotechs, small pharma, and their growth is actually in general okay and particularly if we look on a global scale. And then, within this life science market, of course, there is also NIH and academia. However that is not really significant for us. This is a market that is challenging, but again not very significant. So if I take the whole life science market, big pharma, depending on the different accounts, then the others of CROs, biotech, and [core] actually solid for us.

Thanks so much.

Isaac Ro, Goldman Sachs

Good afternoon and thanks for taking the question. I was wondering if you could maybe give us any updated views on free cash flow and CapEx this year? Trying to scrape around here for any leftover questions?

We expect solid improvement in terms of our free cash flow. We should be, let's call it, in the $270 million range. Something like that. And in terms of our CapEx, we should even be modestly down off of current year levels. Maybe the one variable or -- sorry, off of 2012 levels. Something more like $92 million versus $95 million, $96 million last year. And maybe the one variable in that area, Isaac, would be how currency plays out. A lot of our CapEx, as you know, is outside of the United States. In terms of the share repurchase program, in terms of use of cash flows, we would expect to continue to repurchase shares equal to our free cash flow and estimate option proceeds.

Great. And maybe just a follow-up on the CapEx side. If I look over the last five or six years, it has been a relatively modest trend upward. But as you pointed out maybe down this year. Is this a new run rate or are there other maybe special items like Blue Ocean in the next couple of years that we should keep in mind for '14 and '15?

Blue Ocean is incrementally a -- I struggle to remember what the 2013 number would be, but it is a number of at least $20 million, I would say, in terms of incremental CapEx related to Blue Ocean. And maybe it could even be $25 million. And so if you pull that out, we right now are half pregnant on Blue Ocean in the sense of we have incremental operating costs and incremental CapEx and sometime after 2016 you'll start to see both of those coming down as well as each year then a little bit more on the benefit side in terms of the business case behind Blue Ocean. So there's both of those effects going forward after that.

Got it. Okay that's helpful. Thank you guys.

Richard Eastman, Robert W. Baird.

Thank you. Bill, just the cost take out that you identified for the full year, I think it was $17 million is where you were at against the $40 million, ultimate $40 million number?

Yes we were estimating $15 million to $20 million in previous calls. Correct.

Do you put some of that back to work in '13? In other words -- or will we, looking at this year-over-year, that number should continue to grow by $5 million a quarter. But shouldn't that generate more to your incremental margin than what you identified?

There are three things to think about in terms of the, let's call it, the cost structure piece. So first of all, Rick, we are going to go from that, let's call it $17 million number up to eventually $40 million. But the $40 million will gradually get there and we don't get the full benefit until the end of '14. So let's assume you are seeing that in '15. So it is not exactly $5 million per quarter. Then, the second impact that you have is that our variable compensation -- so we budget a certain level of variable comp, bonuses, commissions, these type of topics. And part of our cost gains in 2012 was that we did not hit our targets so we paid out less than budget. So now, in 2013, we go reset back to budget on these plans and that is an increase of about $15 million. So you largely have the incremental cost savings of 2013 being offset by higher variable compensation. Now, did you have another part to that question or did I get the whole thing?

No, you got the whole thing right there. That was quite frankly that was $15 million missing -- just from the straightaway comp calculation. And then could I just ask, Olivier, the -- you gave some nice commentary on the services side of the business. But could we just -- or could you identify the service please? You discussed service and consumables being about 27% of sales but how big is the service piece? How did it end the year? And what is the targeted growth rate there for '13?

So if we take purely the service business excluding consumables it is about 21% of total sales. And in the quarter we grew about 4%. In general, I expect service to outpace product sales. So we should [rate] better. And this is particularly also true in environments like we have right now. Service is a more steady business, more resilient to the economy. And the other factor that I would add to service is, it is a very important competitive advantage that we have. None of our competitors have the breadth and the depth of our service force and it allows us to be really in close contact with customers whenever they plan to have replacements [off an installed base that's all]. So it is a good business to have.

And that's -- if I remember right from previous comments that you have made, that provides an upward bias to the EBIT margin as well. Doesn't it, service -- it comes in higher than the consolidated EBIT?

Yes. It has an above-group average profitability.

And could you just -- what is the starting spot on the attachment rate for service to hardware in the product sales. Is it 40%? Or, I have no idea?

It varies heavily by country and also by business. But in particularly also by country. You have big differences there. We have actually certain countries that do exceptionally well to have service on the contract. We do it at the point of sales initially and then really put it on the contract. In other cases, the is a mentality in a country where it is more break/fix and we have more of a challenge to really bring it under contract. So I cannot give you a global number, but--

Is a low number 20% or what is an outlier?

20% would be a number but remember that is the percentage we have under service contract. We would actually service a larger percentage of our installed base.

Okay. So that is under counter. Okay. That's fine. I'm just trying to get a reference point. And then just the last question. I know you guys are right. I would not doubt Mary. But I am surprised that with the euro as $1.35, that we are going to still take a negative currency sales hit for the full year. Or flat. Because it -- by July or so, we are comping against $1.26-something number so the yen has that much impact? The strength in the yen?

Rick, even I am scared to challenge any of Mary's currency analysis. So, we could probably to get offline when we talk later.

Sure.

Of course there is yen and a few other. It is the other currencies that is driving. It is the little guys that are driving it more than the euro, but--

All right, thank you.

Derik De Bruin, Bank of America.

Hello, good afternoon. So just a couple of clean-up questions. One of ones, if Bill, your model says that you get the -- lets say we do get the acceleration that -- we, to get to that high end of your organic revenue growth guidance that 0%, 2%,4%, 6% and we go into 2014 with that 6% organic revenue growth number. So, now that you have taken all of these costs out of it, how does that impact your operating model? You previously had the 5%, 10%, 15% growth model. Now that you're taking the other cost out, what is there? You did, on 2% organic revenue growth quarter you did 20% earnings growth. I'm just curious how does that translate look back? And how many -- do have to add any increment the cost backs to the business?

The way to look at it, a good guidance is if we are growing mid-single-digits, we should be able to still deliver incremental operating margins north of 30%, relatively consistently. Maybe one quarter or another there a mix topic that puts it up or down. But as we -- if we can push that number in periods of time to let's call it high-single-digits, you will see more than that drop to the bottom line. But in terms of this balancing of investment, Olivier could speak to this maybe more. But we try to find a balance in how we do it. But we want to invest for growth, because we think over the long-term, our ability to improve our long-term organic growth number is probably the biggest way in which we can generate shareholder value.

It is less so that we need to add the cost back to the franchise. It is more that we want to do the strategic investment. And of course we are holding back with certain investments. For example, adding a lot of sales force in growing emerging countries. At this stage, we are more cautious. If we see that business momentum comes back, we would certainly redo programs like we did a year ago with our field tools [boss], where we strategically add headcounts where we feel we can accelerate growth and gain market shares in an accelerated way.

And so, under a normal business environment, do you envision the business as a 4% to 6%, 5% to 7% consistent organic revenue growth grower?

Yes the 4% to 6% is a reasonable assumption. That is what we predict across an economic cycle. So at this stage, the economic cycle is certainly more in a difficult stage so we expect less. And if things improve, we have a good chance to also exceed it but across the economic cycle of 4% to 6% is the number that we work with.

Great. And then just two quick questions for Bill. Bill, Guidance for interest income expense for 2013? And if I missed it, forgive me, but that's expectations for gross margin improvement year-over-year?

Okay. So let me start with the gross margin. We should have 30 basis points, maybe a little bit more for the full year. And that would be more weighted though to the first half of the year. And so we will be better than that the first a little less in the second half. And then, in terms of the interest expense, we should be somewhere in the $22 million range. And then, interest income for us is a really small number. So it is a few $100,000.

Great, thank you very much.

Greg Halter, Great Lakes Review.

Yes, thank you, and good afternoon guys. I noticed that the research and development expense was down in the quarter. Wonder what your thoughts are there in '13 and whether or not that impacts or what impact that can have on new product innovations?

Let me quickly take the second part so that Bill can look up the number for 2013. On the expenses -- varies by quarter. And it depends on product launch, major product launches that we have and certainly also depends on the overall pipeline. This is not a reflection that we are using the investments or slowing down our R&D efforts at all. There is [another] fact that plays here that we are increasingly also leveraging low-cost countries for R&D efforts. China in the meantime, actually, is very important for us to develop products. But India plays also an increasing role. We, for example, leverage India very much for software development. And so we reduced the cost but in terms of output level but we certainly don't compromise on that [front].

Yes, so maybe a couple of things. So we will get some modest growth. Let's look at a couple of percentage points in 2013. And maybe one other thing that I would add to what Olivier said is that, as you guys know, the biggest chunk, the biggest center we have for R&D is Switzerland and we are always giving you guys local currency numbers. And in Switzerland, there's just not been much of an environment for inflation, whether that be salary or other types of inflation. And so, a big piece of our -- even though we have the same number of people producing arguably at higher productivity levels because we have invested a lot in tools for R&D, software tools and other tools for R&D, the last couple of years. We don't think that in those core, particularly lab area that we are losing anything there.

Okay. And then that leads into my next and final question is -- what percentage of your revenues for 2012, the full year, came from new products if you have that?

It is actually a number that we don't talk about specifically. It is actually often difficult to measure. But a good indication is in the range of 20%. I don't think that it changes too much from one year to another. And it is actually a good indication, too.

All right, thank you.

(Operator instructions)

Steve Willoughby, Cleveland Research.

There's been a lot of great detail on the call so far it and you may have covered this already in pieces. But I was wondering where on the expense side, with the high-end or the mid-point of the organic growth coming down a little bit but EPS going up, what has changed in your thinking as it relates to expenses?

We have a little bit more confident on the gross margin side in part due to the second quarter now, Q3 and Q4 both had very good gross margin expansions. We expect to report that again in Q1. So that is one factor. And then on the operating expense side, we are expressing also where we are in terms of the different cost measure programs we have. So we have a little bit more information in that regard as well.

Okay. And then just the final thing was on -- you mentioned a little bit of an uptick in the US retail business. Is that something that has multiple quarters behind it do you think?

No it was rather specific to Q4. Had also some previous-year comparisons topics in it but no I would not read too much into that.

Okay. Thanks very much.

And presenters, at this time, there are no further questions in queue. I turn the call back over to you.

Thanks Alan, and thanks everyone, for joining us tonight. Just a quick reminder, on Friday, July 26, we will have an investor meeting in our Baltimore AutoChem business. I will have more details for you in the next coming quarter but just wanted to remind you. Of course, as always, if you have any questions, please don't hesitate to give us a call. Hope everyone has a nice night. Thanks, goodbye.

And ladies and gentlemen, thank you for your participation on today's conference call. You may now disconnect.