派克漢尼汾 (PH) 2006 Q1 法說會逐字稿

At this time I would like to welcome everyone to the Parker-Hannifin first quarter 2006 earnings release conference call. [OPERATOR INSTRUCTIONS] Ms. Huggins, you may begin your conference.

Thank you, Elizabeth. This is Pam Huggins speaking, Vice President and Treasurer of Parker. Good morning and welcome to Parker-Hannifin's first quarter teleconference. With me today is Don Washkewicz, Chairman and Chief Executive Officer, Nick Vande Steeg, President and Chief Operating Officer, and Tim Pistell, Executive Vice President and Chief Financial Officer.

To begin, I just want to take care of a couple housekeeping iden -- items. Again, the webcast of the teleconference and the slides that we'll be using today, they'll remain on Parker's website at www.phstock.com until the next earnings release. And, as a reminder, upon the commencement of the formal Q&A session, please limit your questions to one at a time, in order to give everyone a chance to participate. The question and answer session will begin at the end of my prepared remarks.

At this time, as is customary, I'd like to call your attention to the disclosure on forward-looking statements. If you haven't already done so, I would ask that you plead -- please read this statement in its entirety. The numbers in the slides today, they're on a GAAP basis with one exception. That exception's sales. The sales numbers have been reconciled from a GAAP basis to that, without acquisitions, divestitures and currency to allow for a valid comparison from period to period.

The agenda for today is first to begin with a summary of earnings per share results for the quarter. I'll then address sales growths for the quarter followed by influences to sales and earnings, specifically focusing on order trends. On earnings, we'll focus on the continued success of the Win strategy. And then I'll follow with segment results, those will be summarized briefly, and I'll conclude with an overview of the balance sheet and cash-flow trends. I'll close with a fiscal year 2006 outlook, and then we'll open to Q&A.

Starting with earnings per share for the first quarter, in line with the press release this morning, first quarter fully diluted earnings per share came in $1.43, 29% higher than fully diluted earnings per share of $1.11 for the same quarter a year ago. Included in this $1.43 is $0.24, primarily from the sale of Astron and $0.10, as a result of equity-based compensation. Along with FAS 123R, as you know, it's required that we expense equity-based compensation now. To provide just a little bit of history going back, the third and fourth quarters of fiscal year 2004, coming out of the recession, they were good quarters for Parker, but the first quarter last year of 2005 was an outstanding quarter, and represented the first full recovery quarter coming out of the recession. Parker is happy to report that this quarter even surpasses that quarter, that great quarter of a year ago.

Included, as I said before, in this EPS is $0.10 related to the adoption of FAS 123R, which requires the expensing of equity-based confers -- compensation. And this is a very important issue and I want to make this real clear here, because I have read a preliminary report out there and I can't believe but, you know, some people just haven't gotten this correct. At the fourth quarter conference call in August, Parker indicated in the fiscal year 2000 guidance that the equity-based compensation expense would be $0.15 to $0.20 for the year. At that time, it was unknown that half of this expense, 50% of this $0.15 to $0.20, would fall in the first quarter. There wasn't any way that we would know that.

We're on the leading edge in terms of adopting this FAS 123R, and the auditors came in and it was required that, due to a 55 -- if you're 55 age and you have ten years of experience, it's required that this be expensed immediately and you can't expense it over the vesting period. So just to reiterate one more time, back when we gave guidance in fourth quarter, we said this expense to be $0.04 to $0.05. It's come out that it's $0.10 in the first quarter, so there's a $0.06 different as a result of that. If you take that $0.06, add it back to the income from continuing operations, we exceeded consensus for the quarter. Going back again, also included in the fully-diluted earnings per share of $1.43 is a $0.24 gain on the sale of Astron, which we talked about. This unit was classified in the other segment last year and, as you recall, due to the forthcoming sale, Parker provided guidance for fiscal year 2006 without this segment. So, happy that we exceeded guidance for the quarter, moving to operating segment income, it went up 15%, moving margins from 13.5% to 13.8%, a 30 basis point improvement.

So at this time, I'll turn to sales for the quarter. Sales were up 13% of the same quarter a year ago. Of this 13% sales growth, 8% came from acquisitions, 1% from currency and 4% organically. For the quarter, positive core sales growth was exper -- experienced across all segments of Parker's businesses, the 13% sales growth as a result of continued industrial and market strength. The successful and ongoing integration of acquisitions, as you recall, we did Sporlan and Herl in the Climate and Industrial Controls segment., [Cadian] Advanced in the Seals business, FSD in Automation and, of course, we did several smaller ones. And, of course, we're seeing continued strength in commercial side of the Aerospace business. So strength continues across all segments of Parker's businesses, including Europe.

Moving to orders, starting with North America, order rates have been positive for 25 consecutive months. And while comparisons remain tough, orders have remained strong. Orders are stated as a percentage increase over the same period a year ago, as you well know, without acquisitions and currency. The 8% in the increase in orders that you're seeing is on top of 18% last year. And markets that remain strong include distribution, MRO, and as you know, distribution and MRO represents 50% of the Parker Industrial North America business. Construction remains strong, mining oil and gas, and agriculture, except in Latin America. And, as you know, agriculture in Latin America is a small portion of our business. And this is just to name a few of the 1,200 markets that Parker serves. In rest the world again, orders have improved year-over-year for 25 consecutive months. The 4% that you're seeing is on top of 12% last year. The strength is in spite of the Latin American weakness. China continues to do well, Europe continues to be strong, specifically the Scandinavian countries. Germany's doing well. Italy and Spain, a little sporadic, but showing some strength and France continues to be weak.

Climate and Industrial Control orders tend to be lumpy, which you well know, up 4% in September. But remember that this 4% in -- excludes acquisitions and currency. Helping this business going forward will be the newly acquired Sporlan and Herl businesses. In the Aerospace sector, Aerospace continues to perform, reporting an 8% increase in orders, which is on top of ninep -- 19% last year. And remember aerospace, due to volatility from month-to-month, is reporting -- is reported using a 12-month rolling average. The strength that you're seeing in this particular quarter is due to commercial after-market. However, the ramp up of the commercial OEM side of the business does continue with production on orders from Boeing and Airbus.

To focus on net income for just a moment, for the quarter net income's up 30%, before discontinued operations. Income's up 14%. A solid quarter for Parker. For the quarter, income from operations in Industrial North America is 15% higher, and the rest the world 21% higher, and this is compared to last year. The European initiatives, one face to the customer, which is part of the Win strategy, is helping here. In Aerospace, income from operations for the quarter is 7% higher than last year, and Climate and Industrial Controls, income from operations is 18% higher in the quarter versus the same quarter a year ago. The results of the Win strategy continue to be seen, as we've improved margins again, 40 basis points in North America, 90 basis points in the rest the world and 20 basis points in Aerospace. With respect to Lean, DSI declined three days and productivity continues to improve. Obviously, this is evidence of our Lean initiatives at work.

At this time I'll move to segment results. I'll be brief here. Starting with North America, core sales increased 5%, acquisitions added another 7%, resulting in a total growth of 12% for North America. On the 12% sales growth in the quarter, segment operating margin improved from 14.4% to 14.8%, a 40 basis point improvement. As a reminder, first quarter last year in total was a great quarter for Parker. The highest de -- the highest for the year in terms of segment operating income as a percentage of sales. Moving to rest the world, core sales increased 4%, acquisitions added another 7%, and FX, mainly the Euro, contributed another 2% for a total increase in sales of 13%. Margins moved from 12.1 ter -- 12.1% to 13% for the quarter, a 90 basis point improvement. Margins continue to increase in the rest of world, obviously Europe doing much better than we've ever done.

Aerospace sales increased 5% for the quarter and margins increased from 15.5% to 15.7% of -- versus a year ago. So we continue to have great margins on behalf of Aerospace. Climate and Industrial Controls core sales increased 2%, acquisitions added 20%, which you well know is mainly the Sporlan acquisition, and FX contributed 1%, resulting at a total increase in sales of 30%. So, while income as a percent of sales declined, segment operating income increased 18% in the quarter. As you know, the other segment is no longer a viable segment with the sale of Astron, and in total segment operating margin of 13.8% was quite good.

At this time I'll move to the balance sheet just briefly. The balance sheet remains very strong. Cash-on-hand at quarter end was $243 million. Inventory in terms of DSI is down three days. Accounts resu -- receivable in terms of DSO is down one day. Cap Ex as a percent of sales for the quarter, 2.1%. Depreciation slightly higher at 2.8% and debt in the quarter's been reduced by 40 million. That leaves us with a debt to total cap ratio of 21.3%, and on a net basis below 17%. Parker continues to have strong operating cash-flow, generating $217 million in the quarter, greater than 10% of sales.

So at this time I'll turn to the guidance. As you saw in the press release this morning, we are increasing our guidance versus what we told you last quarter. Parker's orders indicate favorable market demand. With this growth, the plan is to further improve margins and deliver a repeat of the solid performance of last year. Strong earnings and cash-flows near record levels are expected in fiscal year 2006. So again, as a result, we are increasing our guidance from $4.80 to $5.25 to $4.85 to $5.30. So, just to give you some of the specifics in terms of guidance for 2006 by segment, North American industrial sales are projected to increase 9.2% to 9.7%, rest of world 15.5% to 16.5%, Aerospace 6.0% to 7.8%, Climate Industrial Control sales will increase 13.0 to 14.1, and again, as I said earlier, other will no longer be a viable segment.

In terms of margins for 2006, and this is the actual ROS margins, as ater -- as opposed to increases, North American industrial margins 13.3% to 13.9%, rest of world 11.3% to 12.1%, Aerospace 14.3% to 14.7%, and then Climate and Industrial Controls 10.5% to 11.7%. Corporate administration unchanged from last time. It will be up 11.5% to 12.5%. Interest expense again unchanged from last time will be down 14.0% to 16.0%. Other expense income will be up 14.0% to 16.0%. There is a change there as a result of the equity based compensation. We said $0.15 to $0.20. It is projected that it will be near the high end of that. And the tax rate for fiscal year 2006 is projected to be down to 29.5% versus the 30% that we told you before.

In terms of breakdown, last time I said I'd give you a little color to help you with your numbers to work through it. Sales will breakdown about 47, 53 in terms of first half, second half. The earnings breakdown will be 46 to 54 in the second half. And one thing that I want you to remember is the second quarter for Parker Hannifin is always the lowest quarter of the year. The fourth quarter, typically a little better than the third, so please keep that in mind as you work up your numbers.

So really that's all I have. Just to summarize briefly, sales were up in the quarter 13%, earnings per share from continuing operation 13% higher than a year ago, cash-flow continues to be good, we continue to focus on the Win strategy, with DSI coming down and we did show productivity improvements in the quarter.

So with that, let's open it up to question and answer session. Thank you.

[OPERATOR INSTRUCTIONS] Your first question comes from Robert McCarthy with Robert W. Baird.

Hello, everybody.

Hello, how are you?

Fine. In your -- in your conversation, Pam, about order rates to a lesser degree revenue, you made a couple references to difficult comparisons. I don't want to overreact to the language you're using, but you almost make it sound like you have some concern about the sustainability of single-digit order growth rates in your industrial businesses?

No, and that's a very good question, because when I talk about tough comparisons, I'm looking historically. In fact, going-forward our comparisons actually get a little easier, so things should look very good.

In line with that, when you were talking about the international rest of world order comp at four, you made a comment about Sporlen and Herl helping that. Should I infer from that that your order growth numbers at those businesses specifically are running higher than the average for international?

No, what I was really trying to convey there was just trying to say that we bought -- we bought Sporlen in October, okay, and we don't include acquisitions for 12 months.

Right.

So I was just merely indicating that Sporlen would be coming on board.

Okay. Thank you.

You will be seeing those in the numbers.

Okay, I'll get back in line. Thanks.

Thank you.

Your next question comes from David Bleustein with UBS.

Good morning, one question and then one clarification. Can you walk through your acquisition strategy and just talk to what you are seeing in terms of the competitive environment out there from private equity funds? The prices you've been paying for deals and what you're seeing going forward?

Well, David, Don Washkewicz. We -- obviously I think we've seen a lot of competition from a lot of different directions with respect to acquisitions. There's a -- there's a lot out there today. Basically, we're pretty disciplined as to how we look at acquisitions and we -- we've uses the same methodology that we've used in the past, which is a discounted cash-flow using our discount rate and so forth at cost of capital. So, with respect to what's happening a little bit is because interest rates have come down, that's changed the cost of capital, which is -- gives you a little higher valuation in some cases for enterprise value on some of these properties. But, as far as multiples, we think that they're still pretty much in line with what we would expect to see out there in this environment. And, you know, we still think there's a lot out there and we're still very active as you've seen.

Alright. And Pam, just a clarification, I think I heard you say 46% of a full year's income is in the first half usually?

I said that's what we are projecting now.

Okay, okay.

I mean, it does run differently at different times, but that's the projection going forward right now.

Okay. So if somebody was going to take 46% of 508 and subtract the first quarter, that's roughly what you are expecting for Q2?

That's right.

And then, Don, just where do you peg your cost to capital?

It's -- it's approximately between nine and ten, somewhere in there.

Terrific, thanks so much.

Your next question comes from Mark Koznarek with FTN Midwest Securities.

Hi, Mark.

Hi, Pam. Morning, and the rest of the team there. I got a question, really, about the revenue guidance for the year. You know, this obviously changed to the better. And there've been several acquisitions and I'm wondering, I haven't had a chance to really do the math and back it all out, but is that solely the increase versus where you were at the fourth quarter, is that solely the impact of the acquired revenues or is there a change in your organic growth rate assumptions?

Right, you're on track, Mark, that's really what it is.

Okay, well then that then leads to the earnings outlook, which is up a nickle. You know, you did do a little bit better than expected here in the quarter and, you know, you're getting a little bump from tax and, arguably, that's maybe being offset by the higher options related expense. But, you know, the conclusion seems to be that the acquisitions aren't really going to be materially accretive. And you know we're talking about something like $300 million of acquired revenue so far this year of what seems to be pretty nice property. So I'm wondering, is that a reasonable conclusion to draw or is there something else going on in the outlook?

Mark, good morning, Tim Pistell. We -- I think we've talked about this before, too, and we have now adopted a very rapid integration program for acquisitions, and trying to bring them onto our systems and also introduce the Win strategies, including the procurement and so forth. So there's a lot going on in the first three to six months. And, frankly, that's a change and there's a lot of cost involved. So, honestly, we do not look -- we do not look for a lot of earnings out of them in the first couple of quarters. So, hopefully, we can change that down the road. You know, we'll get that done faster and they'll be producing faster. But it's -- they are good businesses with good margins, but there is that integration cost the first two quarters.

I see. Okay, and then just a final issue here is price realization in the quarter. What component, you know, what percent of revenue was that in the quarter?

Mark, this is Nick Vande Steeg. You know, we have -- as part of the Win strategy, we have a pricing initiative and we're out in the -- in the marketplace on a continuous basis with everyone of our divisions, so there is some variation. But, you know, all in all, I guess you could probably put in something in the neighborhood of 2%, 3%. It's getting more difficult, obviously, to raise prices as we move along, but that's our assumption.

That was the component of price in the quarter then, Nick?

That's correct.

All right, great. Thank you.

Your next question comes from Andrew Kaplowitz with Lehman Brothers.

Good morning guys, good quarter. Can you discuss the Aerospace market in the quarter in a little more detail? You're up 5% in the quarter, a little lighter than I would have thought. I just wanted to get sort of a landscape of what's going on.

This is Tim, Andrew. Yes, there -- the good news for us, Aerospace is doing quite well and they're winning a lot of business. It's very exciting for us. They're -- they were a little light in the quarter for us as well, too. You know, we got into the Boeing situation, had to work through that and some other issues, so they actually shift a little lighter in this quarter than we had anticipated. But we fully expect them to make that up in the next quarter. So that's all it was really, issues with Boeing, issues with some vendors. But, obviously, they still delivered well on the margins and, as I say, the sales that we didn't see this quarter are scheduled to come through the next quarter.

Okay, that's great Tim. How about the margins? I mean obviously they were better than I thought. Can that last throughout the year? I guess you would expect the margins to come down a little bit in there. They were definitely strong in the quarter.

What happened there is there was a higher content of commercial after-market. Okay, as you know the commercial OEM side's really been ramping up, but in this particular quarter, a good commercial after-market creating really good margins.

Was your question specifically Aerospace or Company in general?

Really just Aerospace, you know, for the rest of the year. If the after-market were to keep up can margins be better than I would think, or are we still going to get some of the costs that you mentioned previously coming on line as the year goes on?

We're sticking by our guidance, the most part.

Okay. Thanks, guys.

Your next question comes from Robert LaGaipa with CIBC World Markets.

Hi, thank you. Good morning. I had a couple questions. One, I just wanted to circle back on the acquisition strategy. You mentioned your discipline acquisition strategy and the metrics that you use, you know, based on discounted cash-flow. But I was just interested in geographically, it seems that, you know, the focus has been more European based. Certainly, it looks like you have won this domnick hunter company, the filtration company. And I was just interested, is that a function of filling out the product gaps in terms of increasing product breadth, given that the trading subsidiary reorganization? I mean, is that the strategy, and that's where the core focus or is it more broad-based?

Robert, this is Nick Vande Steeg. It's more broad-based.

Hi, Nick.

What we have is a global strategy and I think one of the things I'm going to talk about in the investor day, the conference, is that very thing. I'll talk about acquisition strategy and some of the history, as well as the future, what we think, and this business about integration. But all in all, you know, usually we've said before that our acquisitions take place as a result of many years of knowledge of one another. And so we're in the marketplace, as was the case with domnick hunter, we've known them for some 20 years and been talking to them for the last five seriously about them becoming part of our Company. So that's the way it goes. So we have -- we have with our board of directors the very specific strategic view of acquisitions and how we would like to fill out all of our various global markets. But, basically, we want to be one, two, three in every market that we serve around the world, and that's the -- you know, that's the bottom line of it all.

Is there a closing date expected for domnick hunter and is that included in the forecast? Maybe you can help me out with that, Pam?

It is not included in the forecast. Our practice is to not include acquisitions until they close.

The -- this is Tim.

Hi, Tim.

We're working against a clock and it just depends on when certain other events occur. We're hoping that this will all be wrapped up by, let's say, the end of October right now, okay? But I can't give you a definitive date because there are things that, you know, still could occur to shift that.

If I could just one other, sort of, add on on a very good question, Robert. There's something we have been talking about for quite a while. There're a lot of consolidation in our markets occurred in North America in the last couple of go-rounds. And Europe really has -- was lagging behind on that. In the '80s there was a lot of consolidation here that didn't occur, none occurred in Europe. In the '90s a lot of it got finished in North America and just started in Europe. And so, I guess there probably is a little more opportunities for consolidation in Europe right now, there's still some in North America. And then, Asia is really kind of a mad scramble for everybody because, as we know, in places like China there really was a lot of good things to buy and it's -- you know, everyone sort of -- a lot of green field and smaller things over there. But I think that's -- it's reflective of the fact that there -- more consolidation has already occurred in North America.

And just as a follow-up to that, maybe Nick, you could speak to this, just in are terms of the integration or possibly Tim, you mentioned you're adopting the rapid integration program through the Win strategy, etc., trying to adopt that quicker. Given that the shift has been, and to your point just now, it's been the shift more towards Europe, it appears, does that change the integration strategy at all just given the different dynamics in Europe versus North America?

No, not really. They -- the integration, you know we've got typically a 90-day plan, a 180-day plan. We're looking for synergies, we're looking for implementation of the -- of the Win initiatives. And so we've got a schedule that looks pretty much the same, no matter where in the world you go. It might be a little different if you're in China, for example, but other than that no, it's pretty much the same. I think one of the things you commented on that, you know, is very realistic, and we've been doing a lot of things in Europe with this -- the European initiatives and with our sales companies and consolidations, the warehousing and the like. And so it -- you know, that all fits into it, but we see that as all part of the Win strategy.

Okay, terrific. Thank you very much.

Thank you.

Your next question comes from Ann Duignan with --

Hi, Ann.

Hello?

Good morning, Ann.

Sorry, I didn't know if you could hear me. I guess my question is around your mix and mix change, Don, I think you mentioned that distribution and then MRO were higher this quarter and, of course, those are higher margins. When I look at your nice operating profits, I'm curious again as to why you took down most of your operating margin guidance going forward?

I don't think I -- Ann, I didn't really say that there was anything different in this quarter versus any other quarter. Our distribution, I wanted to imply, has been strong all along. And the key that I think that, you know, we always are asked about are small niche -- I shouldn't say niche markets, important market segments at the OEM level, which are certainly important to us. But we tend to forget about the biggest segment of our business that nobody really talks much about, which really has a lot more impact on our overall activity than anything else, and that's the distribution part of our business. n North America, industrial as 50% of our total business, and the world is 30% of our total business.

So, when you look at slices of our business that have a major impact on Parker, distribution should be at the top of the list. And I want to make sure that all the analysts understand the importance of distribution and the fact that we have, you know, almost probably approaching now 10,000 distributors. We said in the past 8,600, but with the new acquisitions, that number's going to approach 10,000 worldwide. And that is a -- a very significant competitive advantage that this Company has that others do not, and it really does impact our margins going forward. The margins we get, of course, from our distribution business are a number of points higher than the OEM level, and so we are very, very intently focused on that segment, have been since World War II. And I want to make sure no one forgets about it.

And I absolutely agree with you Don. What should we infer from the fact that you have taken down your guidance for margins going forward, should we infer that --

I would like to just address that for a moment, Ann. One of the things in terms of margins, if you look at the guidance we gave previously versus this guidance, there really isn't much difference. What we have to remember is the first quarter of last year was a dynamite quarter that had margins higher than any other quarter of the year. We beat that quarter this year, but you have to remember second quarter will be, that's our lowest quarter for us. So if you go back and look at the margins last year, you'll see that the first quarter was higher than the total yearly margins, and that's the same thing that's being forecasted this year.

So you're anticipating that first quarter is not sustainable going into second quarter?

No, second quarter is our worst quarter. It'll be down, it always is.

The fourth quarter's your best normally, so I mean -- I guess my bottom line question is are your -- is your guidance for operating profit still on the conservative side?

We think that they're pretty good. I mean, we think that our margins and what we're forecasting is what we see today and we're doing the best that we can in terms of forecasting.

Okay. Just one follow-up question, if I can. You keep mentioning that agriculture is strong for your business, you're probably the only suppliers to the agriculture sector that's saying that right now. Is there something specific going on in your business? Did you win a platform or market share or a new customer, or -- Can you give us some light in terms of what's going on there?

Ann, I don't want to be misleading about that. I guess what I'm saying, in terms of our sales now and our orders, as far as agriculture, outside of Latin America, we haven't really seen it fall off. We're not saying that it's increasing or it's getting stronger. We just haven't seen it fall in line with what the macro environment seems to indicate.

Okay. And one final quick follow-up for you guys, just in light of your financial flexibility, I'm curious as to why we're seeing share count creep up.

You didn't see share count -- no, the average shares outstanding decreased this quarter from the fourth quarter by about 700,000 shares.

Your next question comes from Gary McManus with JP Morgan.

Hi everyone. Just to clarify some of the earlier questions. In your sales and margin assumptions by segment that you provide, it includes acquisitions but only ones completed, so domnick hunter isn't included. So, for example, industrial rest of world you had 9.4 to 10.4 sales growth, now you have got 15.5 to 16.5. You basically said that increase was due to acquisitions but it doesn't include domnick hunter. Is that -- do I have that right?

It does not include domnick hunter.

So I should -- other ones you've announced as well, there's domnick hunter, like Porter and Sterling, the ones -- they're not included either, right?

No, they are included.

They are. So domnick hunter is the only one acquisition announced that's not included?

Right, Domnick hunter hasn't closed, so it is not included. Those that have closed and announced are included.

Okay, and the same -- I mean, the margins being a little bit lower than you had before is just due to including these acquisitions. Is that fair, too?

Can you clarify you're question when you really say margins being lower in terms of what they were before?

Well, yes, I mean your mar -- for example, your margin assumption in industrial rest of world is 11 -- 11.3 to 12.1. It was 11.8 to 12.4. It went down a little bit. Is that just due to adding acquisitions that carry lower margins?

That's right.

Okay. So --

Not that they carry lower margins, I want to clarify. It's not that our acquisitions carry lower margin, it's integration cost in the beginning.

Okay, okay. My real question is, you know, the stock option expense, the $0.10, which I guess rou -- on a pre-tax I assume is around 17 million. Where does that fall in the P&L? Is it -- it's not just in other income, is some of that in SG&A and cost of sales?

If you're looking at the consolid state -- consolidated income statement, that is true. But if you're looking at segment reporting, it's in other expense.

What I'm asking, can you break down the 17 million in the different P&L cat -- you know, how much was in cost of sales, how much -- you know, I look SG&A was up 22% year-over-year. I assume that was influenced by these stock option expenses?

You're right.

Yes, it's a --

Hold on a minute, we're going to dig for that number.

It's 4-4.5 million in cost of goods sold, the balance is in SG&A. I got the exact numbers here somewhere. Let me find it here. Yes, 4.5 million in cost goods sold, right? Okay, 13 million in SG&A.

Okay.

And yes.

Nothing in other, I mean, right?

Correct.

Okay. And just one last question, the $0.05 to $0.10 of stock option expense you expect for the rest of the year, how would that break out by quarter?

Well, it's a -- this is -- I know this is critical. This caught us by surprise as well, believe me. This is, once again, the accountants coming in late in the quarter. And, by the way, this is going to be an issue for just about all other companies, and I don't know if all of them realized it or not, but it caught us by surprise. Originally when we gave you that guidance, we thought that was going to be pretty linear over the course of the year and that's how we built it in our plans and in our guidance. And then when they came in and said oh, no because of this 55-rule investing, so we recorded ten and so the balance, which, you know, whatever say could be called $0.08 or $0.09, will be probably linear now, will be linear over the next three quarters. So we'll get it -- you know, the number doesn't change for the year, it just caught us up in the first quarter, Gary.

Your next question comes from David Raso with Citigroup.

Just a quick question regarding that [inaudible] and the stock option expense. The guidance previously for the other expense income, it was previously guided down 28% to 30%.

Right.

That had not include stock option expense?

That's right. Because at that time, as you recall in the last call, we weren't sure where that was going to be classified. Whether what is going to go in the other expense below segment income or whether, you know, it was going to be allocated out. So at that time we gave you guidance before and after the FAS 123.

And just to be clear, the new guidance now implies --

It does.

$41 million more than the previous guidance in that line item.

That's right, but that other expense now does have equity based compensation expense in it

That implies stock option expense more like $0.24, $0.25 per share or am I not tax effecting it properly?

Well, you know, there's some other things. For inchent -- for instance, we had higher pension costs as a result of lowering the discount factor.

Okay, so this is some other puts and takes besides that?

Right.

And one last clarification on the EPS for the full year and the first half, trying to back in to the second quarter. The first quarter number you're using for that is the $1.19, correct? It doesn't include any of the Astron gain or profit?

That's right, that's right. It does not include the Astron gain or profit.

Okay. Thank you very much.

You're welcome.

Your next question comes from John McGinty with CSFC.

Good morning.

Good morning John.

I just want to make sure I understand, looking at the cash-flow statement, the acquisitions for the three month or $153 million, that's everything that you have announced except domnick hunter?

No, no, John, That -- that is just primarily the -- the big one is the SSD, and then the two smaller ones which is Herl and that Filtran, that little seal kit acquisition. Those were actually recorded in the quarter. Now, subsequently here, we -- you know, we just closed on those other two, on Porter and Sterling, and so now when we can update our guidance, we can put that in there.

Let me ask, given what you have announced so far, in other words by, let's say, the ones that you have announced and you hope to close by the end of October or November, what will the acquisition -- what will that number be based on what's been announced to date?

For year-to-date or --

Yeah, year-to-date let's say on November 1, if you close everything by the end of October, the 153 will become what?

Well, if you -- are you -- I don't know, we don't want to jinx ourselves on domnick hunter, but let me give it to you before and after, okay?

Okay.

Everything else we have announced to date would have an annual run rate of 308 million, an annual run rate of 308

Spending?

I'm sorry, I'm giving you the revenue.

The revenue, okay.

And then, as you know, domnick hunter has an annual run rate of around 300.

Right.

So if we -- if we were to wrap that up by the end of October, then it would be a little over 600 million.

Okay. But the -- I guess what I'm trying to understand is in the revenue guidance for -- are Porter and Sterling in the revenue guidance?

Yes.

Yes.

Even though they had not closed?

Yes.

Okay. Domnick hunter is not?

Correct.

And domnick hu -- but Porter and Sterling are not in the cash-flow?

Correct.

What was the -- what did you pay for Porter and Sterling, ballpark?

As you know our practice we don't generally disclose those.

I guess what I was -- okay. All right. So when we see them at the end of December, if you don't jinx yourself, then that 153 will go up by domnick hunter plus Porter plus Sterling?

Correct.

I guess the question that I have, and it's a broader question, when you look at what's out there, your debt to capital, your net debt to capital is under 17%, it's way below anything you-all have said was what -- where you want to be and so on. I guess the question is there still -- are there still things out there that you think that you're going to acquire over the balance of the fiscal year? Or are you just going to go out of fiscal '06 tremendously under leveraged? Or are you going to look to any other kind of issues with regard to replacing, to doing something with the cash that you have gotten from the divestitures in terms of buyback or something other than acquisitions? In other words, the same questions that we all asked last quarter and you said don't worry about it, we're going to make a bunch of acquisitions and you have, but you haven't used up the cash.

Right. John, let's just put it this way, we've just started, okay? There's plenty going on here, We're very focused and without saying any more than that, I just have to say we've just begun.

But having made as many as you have, at what point there's got to be some kind of issue of even small acquisitions, the number of acquisitions that you can undertake. There's got to be some limit, isn't there?

Let me just clarify a couple things. SSD was Automation group.

Right.

Herl was the CIC group, Sterling was the Hydraulics group, Porter Instruments the Instrumentation group, [Taxlac] and [Paige] is the Connectors group, and Filtran after aftermarket is the Seal group. That's nothing. These groups we're talking about billion dollar plus groups in many cases here. They can handle a lot more than that. We're very decentralized. It's a wonder -- that's the wonderful part of a decentralized structure with 115 operating divisions with general management and a team, we can handle a multitude of acquisitions, multiple of this number.

Okay. Thank you very much.

And I think, you know, we've done a lot in the past, but I think you'll see some interesting things going forward.

Your next question comes from Alan [Schrop] with (inaudible).

Just a follow up to John's question, your interest expense assumption includes what acquisitions? Does it includes everything but domnick hunter?

That would be correct. Again, we would -- in terms of the guidance we're giving you, we again, just to clarify what happens, I mean the numbers are the numbers, we follow the accounting rules when we cut off at the end of the quarter. If we have managed to close a couple deals after the quarter and we update our projection for the year, we build those in because they're done. But that's all we would build in. Then we would wait on the other ones. So the model we're giving you, the projections we're giving are at the end of the quarter, plus those couple other deals that we announced and that's it.

Okay. So following up on John's question, you're not buying back stock, there's no share repurchase slide because, I mean, you guys are very active. It seems like -- it doesn't seem like an either or situation. Do you want to clarify that?

No, we are buying some shares. As I indicated in answer to a question earlier, we have decreased the average shares outstanding. The differential here, from the end of June 30 until the end of September 3,0 we brought that down by over 700,000 shares. So, we are active. Again it's a very metered and disciplined program and we are bringing it down. I mean, we didn't announce the big bang program, but we did announce that we were going to commit more monies and we have and we are bringing -- if you go back over the last several quarters, you'll see that -- that it's coming down.

What do you have announced out there on share repurchase, if you could refresh us?

What we had announced is that we would do a minimum of -- a minimum of ten million a quarter, that's dollar cost averaging. Then we have a grid that we live by, give us the discipline, on where we buy more shares. And again, we recalibrate that and overall, as I say, we need to target -- in order to present -- prevent share creep, which we have committed to do, on average we need to be looking at 750,000 to a million shares per year. And so the program's really geared around that.

Okay. So back to the leverage in John's question, why -- I guess your board has authorized a million shares a year, $60 million a year or $62 million a year. Why is it so minimal? I still don't follow the notion that it's either acquisitions or share repurchase, not both.

Well, again, we are doing both and we're not limited --

It seems pretty minimal to me and probably everybody else on this phone line.

Well, I think -- this is Don, I've answered this before. We have a very specific strategic plan that we're trying to follow and to execute on, and that strategic plan is a growth plan. And we're going to use the free cash-flow for growing the business, whether that's using that in applying it into innovation or applying it into acquisitions. But that's our primary focus now to meet what we have laid out for the board as our -- as our strategic plan. So that's been our choice. We think it's working, it has worked in the past. We're growing, we're growing faster than we ever have in the past. We're more successful, we're generating more cash, our earnings are records, our sales are records, everything'ss a record. We like what we see and we're going to continue down that path.

All right, thanks.

That's how we will build shareholder value.

Thank you Alan.

Your next question comes from Andrew Casey with Prudential Equity Group.

Good morning.

Good morning Andy.

A question on the Win impact on days inventory, kind of get into the cash generation. In one queue, down significantly from a few years ago same period, how much -- a couple questions on it. How much further can you go or are we approaching a point where the incremental improvement is going to come at a slower pace? And then, second, is the roughly 600 or so million in acquired revenues including domnick, assuming you close on domnick hunter, is that a high inventory set of revenues or is it comparable to what your business already does? Thanks.

Okay. Andy, with regard to inventory, as you'll recall when we began the Win strategy about three and a half years ago, we had $0.19 in inventory. And we set a goal for ourselves of taking that down about $330 million. And we thought at the time that $0.12 would be a number. When we compared ourselves against some companies that we felt were doing a real good job with regard to inventory, we picked $0.2 cents as a goal. Now, we finished the year last year at $0.125 and so we have gone out to our operating people and said that we're going to lower the goal for the Company down to $0.10. And so we -- that was met with enthusiasm. I think that we all feel as though, as we become a more lean organization, that we've seen a continual -- as the inventories go down, we've seen lead times shorten, we've seen on time deliveries improve, and we've just seen, you know, better factories. Variance application is less an issue. So we're going to lower it. So we think that $0.10 is probably the right number. So we're down three in the quarter and we will continue to work on it.

And thanks Nick. On the acquisitions, do you expect those to have further opportunity, are they running around where you are right now.

Yes, I think -- this is Don speaking. From what I've looked at as far as most of the acquisitions, there's a lot of opportunity. Most of these companies have obviously been involved in a variety of different things. Most of have not been involved in lean to the tune that we have here, to the extent that we have and using our methodology. So I think we're going to be bringing a lot to, you know, these new acquisitions and I think it's going to result in some real positive end results as far as inventory reduction and productivity improvement, as well as customer service improvement.

Thanks a lot, Don.

Thank you Andy.

Your next question comes from Eli Lustgarten with Longbow Research.

Hello, Mr. Lustgaraten. How are you?

Good morning. Can you hear me?

Yes, we can.

I just wanted to make sure. Had mute on, never know if you have it. I just have a quick question on the acquisition, something different. When you finish with domnick hunter, you know you're increasing -- and you a lot international acquisitions, can you give us some idea what's going to happen to the tax rate the rest of the year, and more importantly next year, with the increase international exposure and where you expect debt to total capital and cash to wind up after you spend $450 million for domnick hunter? The change in tax rate outlook debt to total capital to go out?

Eli, are you -- you're asking -- the question you're asking is what about the tax rate next year with respect to all the acquisitions and how it's going to affect them?

We see the tax rate keep coming down now we're making all these international acquisitions in locations is not exactly a fairly lower tax rate for you.

I'm sorry, I was -- I didn't understand the question. In terms of the tax rate, as you know we have had a very strong on-purpose program to try to drive that down, and we've took it down a little notch here. We are -- we're working on some other plans and actually the interesting thing is, with the acquisitions that we're doing in Europe, they can present some opportunities for us to do some tax planning. So again, it's just a question of how you do these things and we're getting -- we're getting a little more -- we're getting a little more astute in how to go about that. So, I -- no, I do not expect the tax rate to be going up. In fact we're working on continuing to bring it down.

Expecting what we have this year will continue through next year?

Yes.

Using most of the cash that you have to pay for domnick hunter, is that how we're doing this thing, or where is the debt to total cash going to wind up?

Well, we have probably, at the end of this quarter, and again this is without having actually had to pay for the Sterling and the Porter we announced or the domnick hunter, okay, but before those three we have -- we have probably capacity -- I mean, we know we have capacity north of a billion and it can be, you know, well significantly north of a billion. If we put in just those three, it's still going to leave us with plenty of dry powder and on top of that, the way this Company is pumping out cash every quarter, we're adding almost $200 million a quarter on top of our capacity. So we'll have -- we will still have plenty of room to consider things that are brought to us.

Is free cash-flow expected to beat last year's 854 or whatever it was last year for this year?

We would love to see it happen. You know, we're on track right now, and we've got three more quarters to get through, but clearly we started out well. And it's a key metric around here and so that's what we're focused on.

One final question, as we look at outlook for the rest of this year today, part of it's in the guidance into next year, as the OEM part of Aerospace goes up, you expect margins to come off a little bit?

That is correct, and that is -- that was the original guidance for the year and that is exactly what will occur. We start out with a good first quarter and a high MRO. I mentioned earlier some sales didn't ship in the quarter, going to go into the second quarter. Well, guess what, those are OE shipments, those weren't after market, and there will be a higher percentage of OE business in the second half. So they'll come down a bit, but Aerospace still is a very nice business for us.

Okay, thank you.

Thanks Eli.

Your next question comes from Ned Armstrong with FBR.

Good morning Ned.

Good morning. Could you just comment quickly on the Climate Industrial Control segment as to why the margins are down there, year-over-year?

Yes, I can -- this is Tim, I can do that. Interestingly, although we don't like to get into the minutia and everything else, bottom line it was all realignment, the restructuring. We did have a little bit of restructuring in the quarter, about a penny's worth and it all occurred right there. If it wasn't for that restructuring, the margins would have been virtually the same

And what was driving the restructuring activity?

Ned, let -- This is Nick Vande Steeg. Let me comment a little bit more on and give a little color to the climate situation. As you know, our Climate Industrial Control group is made up of three portions. There's the mobile, then there's refrigeration and there's industrial. Both refrigeration and indu -- and in industrial we're doing just fine. So really most of this is focused on mobile, and mobile is really made up of two pieces. It is automotive on one hand and is truck and highway on another. We all knows what's happening in the automotive marketplace. So what we've done in the case of automotive in Climate is we've done a plant restructuring, we've closed a plant, we've combined two divisions. We have some mix, we're taking a good look at the mix going forward. So basically, we expect that this mobile portion of Climate -- I just met with the group president and some of his operating people yesterday, and we expect that to be in the high single-digits in terms of operating margin in the second half. So we're getting this stuff behind us, but it is -- it does amount to plant closures and other consolidation costs.

Okay, so it's fair to say that the reduction in margin was driven by restructuring activities that was in turn driven by the weak automotive market, and that most of that restructuring activity, at least the cost recognized, is behind you?

Not behind us yet, will be behind us by the end of the half.

By the end of the half? Great, thank you very much.

Thank you, Ned.

Your next question comes from Robert .

I just wanted to ask a couple questions about domnick hunter. First, could you talk about, you know, given that you're ultimately expecting to pay a higher price than originally envisioned, can you talk about what kind of expected return you're looking at, at least as you model it, until you get your hands on the business, and how long you would expect it to be before you'd be earning above your cost to capital?

Well, you know, as we've said before, is that we want to explain all that to you when we close the deal. So, on the day that we close the deal, we will answer all of your questions. We'll go through all of that, the integration, the potential, how it fits, the whole -- the whole thing. So if you would just hold off until we close. It would be premature for me to say anything about it right now.

Okay, but we're going to pester you next week in Cleveland.

I expect.

Thanks a lot.

Thank you.

Your next question comes from Alex Blanton with Ingalls and Snyder

Good morning, Alex.

Good morning. In the last month or two, the whole machinery group, the large cap stocks, have come counsel quite a bit, including Parker Hannifin. And one of the knocks is that raw material prices, instead of going -- backing down as many people had thought they would earlier, look like they might continue to go up. And that, again, the companies would have a hard time catching up in terms of price increases to offset that.

Now, the last time around Parker didn't have those problems. One of the few companies, in fact, in the machinery group that was able to pass along all of the -- virtually all of the cost increases to customers in exchange for being able to deliver on time. The other part of the equation is that Parker also got all of its materials on time from its suppliers, unlike other machinery companies, and so was able to have record on-time delivery at a time that no one else could. And that was the main reason why you had such a strong first quarter a year ago, able to pass along the price increases and record on-time delivery, outstanding lean manufacturing performance. Could you update us on that? What will happen if raw material prices, as many people assume, continue to go up? Will you be able to continue to pass along those cost increases and will you be able to continue to deliver on-time unlike your competitors?

Alex, you hit it, I should have given you my script here. You hit it right on the head. I mean everything you said is absolutely true. There's no way you can recover any cost increases if you can't service the customer, and that's always been our number one goal. We're focused on it,intently focused on it. I see a spreadsheet every month that has every division in the Corporation. We know exactly where everyone's at. Our service has gone up steadily over the past three years. We'll share that with you next week. And that is the reason why, as you said so correctly, that we're able to pass on increases. The lasting go-round was because we're the one that -- we're the Company that could service the customer. And the customer was more concerned about getting product than he was concerned about a few cents, paying a little few cents more. He didn't want to shut down his production line. Absolutely correct.

I can tell you today that we are taking business from cus -- from competitors today that can't service, that can't deliver product, okay, that the same situation is in place today that has happened back then and -- and we are benefiting from that. As far as passing on price increases, we're very disciplined. We have an entire team that wasn't here five years ago in place that works this 24/7 and has strategies in place, has methodology in place to get these increases into the marketplace promptly, whether that be surcharges or increases or however we do it. And it varies from point to point around the world from all of our different operating units. I can tell you that we are finally tuned as far as how we do increases. But the very part that you said very early on, I don't think a lot of -- matter of fact, I've never heard any other analyst talk about service. You hit it right on the head. You don't get an increase unless you serve the customer You better get the parts there and get them there on time, or they're not going to talk to you about any increase.

You know also that we have a methodology at Parker where we basically go out to the after-market part of our business, and I told you earlier that that's a very dominant part of our business. It's usu -- typically twice twice a year, either it's a January or it's June. It doesn't have to be both, it can be once, but typically at least once a year, possibly twice, and we adjust those prices accordingly across the Company to that major segment of our business. f course, you're working with the OEM's. You have contracts that you're working on and those have certain time frames or, you know, contract expiration dates that you're dealing with, and so you work around that with respect to the increases to OEM. So there's a variety of different things we do with the OEM's. But, by and large, I think that the customers today, and I don't know where you're getting your information from, but it's correct, appreciate the service that we're giving them and they're rewarding us appropriately.

Thank you.

Thank you Alex.

Your next question comes from Chris Kotowicz with AG Edwards.

Good morning Chris.

Good morning, everyone. I guess I've got a follow-up on the restructuring at CIC, just so I think we understand it correctly. Is there any carryover in expense in the second quarter or have you already taken all that?

No, I mentioned that we have not taken it all yet.

Okay, I just wanted to be clear. Is it going to be similar in magnitude?

Yes, it will be, but it will be concluded in the second quarter.

Okay. You mentioned pension expense, can you share roughly what that was in the quarter on an overall basis?

Yes, in the other category --

Let me look here, I'm not sure that I have it just for the quarter. I think what we did say, which might be helpful to you is that pen would be up 39 million, 30 -- around 40 million for the year, which includes insurance and medical, as well.

Okay.

Ten million a quarter's pretty reasonable.

Yes, so that's --

Okay. I guess my other question was on capital expenditures. I guess we talked last quarter about that was probably going to head north this year. At the pace you're at right now, it's not looking like it will head north maybe as fast as some of us had thought, which is -- I guess I'm curious, is that going to continue at this type of pace, you know, 180 million for the year type pace for the next three quarters or are we at a run rate or are we below the run rate?

Well, Chris, we continue to be surprised, to be honest with you. You know, when we layout our forecast and talk to our worldwide group presidents and they go all through all of our divisions, they forecast more Cap Ex so we keep thinking that it's going to go, We keep saying to all of you that we -- you know, we think the numbers more likely somewhere around 3.5. And yet, when everything is said and done, they keep leaning out the factories and we have lots of capacity, our service is excellent, and we're not spending a lot of money on Cap Ex. So, if I were to be honest with you, I'd say for the remainder of the year I sort of think it's going to be a little higher than it's been the first quarter. But I've been saying that for a year and a half. So, that's sort of the answer, that I expect it to be a little higher, but they keep surprising us and coming in at that number about 2% of sales, so it is what it is and we'll see.

Was the Cap Ex lower because they said we need more but then they didn't, or is it that management at some level is saying we're not going to spend money on this right now because we don't think at the margin we really need to yet?

Oh no, not at all on the second part of this. I mean, if they needed for capacity reasons or technological reasons, if they needed to spend Cap Ex, they would be more than happy to do that. Or if we needed brick and mortar, we'd be more than happy to do it. As a result of lean, you know, we just don't need it. It has a lot to do with, I talked about this before, but used to go out and buy these machine tools that were, you know, a million dollars, that sort of thing and now, in the lean environment, you're more apt to buy a $40,000 drill press and stick it into a cell and produce the parts less expensively and with less Cap Ex. So that's just the reality of it all. And that -- and we find that to be true wherever we go in the world. So, we do not -- no one here is saying listen, hold down Cap Ex because we're trying to get the cash-flow. That is not the case. We'd be more than happy to use it if we needed it. We simply don't need it because of lean.

How much of the, I guess, impact or the you don't need to spend as much on Cap Ex, how much of that is driven by capital acquired with acquisitions? I mean, you've done a lot of acquisition activity in the last few years, lots of opportunity I'm sure to clean that up. Is that in particular a tail wind in this effort or is it really independent of that?

It's really independent of that. I mean, what typically happens in an acquisition is they have, you know, more than M&E than they need, as it turns out, and so we go in and they've got more space than they need. I mean, it's even been -- you know, Sporlen was a pretty good company that we acquired and we've been able to close an entire building. And at the time we bought them, they were talking about expansion, so the beat goes on.

And, you know, some of our -- I think Don mentioned this earlier with regards to some of the acquisitions that we've been making, for example SSD. They've been in a lean environment for several years and so. they're pretty lean to start with. We hope that the Parker brand of lean will bring them some more tools and we'll continue to lien it out. But we're finding some companies that -- you know, someone mentioned earlier that some of the properties that we're buying have better operating margins and that is the case and they've been working lean and that's usually the reason why.

OKay, then one final one on a separate note. Do you guys have the impact of acquisitions on total Parker margins in the quarter? On an aggregate basis?

You know, that's not something that typically we would share in a forum like this or otherwise.

Okay. Alright.

You know, what I will say is we have the margins baked into the plan, into the guidance that we have given you, and we talked earlier about some of the expenses as well that are baked in, so --

Sure. I just know we'd all be interested in how much dilution you had associated with the acquisitions and therefore, maybe you know, that would put an exclamation point on the strength of some of the underlying businesses and the margins that putting up there.

We really don't have dilution baked in. I will tell you that.

I mean, that would imply that your segment margins for your acquisitions and aggregate are like 13.5%, 14% then right?

Without -- again without getting into the minutia , the acq -- we have more detail than we possibly ever could thought we could want or need. So we can see this 18,000 different ways. The acquisitions are creative, but I have to tell you that it's not hard for an acquisition to be accretive in this environment with -- if you're just looking at incremental borrowing versus, you know, the margins you bring in, accretion dilution is a pretty easy -- that's a pretty low hurdle to get over. Much more important is what is the return on the investment going to be, the ROIC and so forth. But again we have a lot of detail, but we don't give it out that minutely.

Okay. I'll take any other question off-line. Thanks.

Thank you.

Your next question comes from David Raso with Citigroup.

Hi, just a bigger picture question. The earnings power for the Company this cycle, besides how you use the balance sheet, critical is going to be can you get the North American margin up a couple hundred basis points from what we're looking at this year to get back to the peak level? The international margins have done a great job cycle-to cycle. But in North America, I guess first more near-term, there's a difference between a deal being accretive and also still be dilutive to margins. For this year, the margins you've taken down across the industrial businesses, is that reflective of the acquisitions diluting the margins or is there something else driving your margin assumption down? I mean, earlier you mentioned it was a tough comp from a year ago, but that's not the point. It's from three months ago when you gave guidance for the year. We already knew the margins were strong a year ago first quarter. What's changed the margin outlook this year?

Well, David, this is Nick Vande Steeg. Let me sort of reiterate some things that have been talked about with regard to operating margin. First of all, what we said is that we just -- we just announced a 13.8% operating margin, which is on the tracking mechanism that I have in front of me, it's the highest quarterly operating margin that we have in the last four years. Now, if you go back, so you say well what -- at 13.8% operating margin, if you go back to what was your next highest, it was 13.5 and it was the first quarter of last year.

Well, Nick, not to interrupt you (inaudible), but that's not relevant to the question of three months ago we had margin assumptions for the year. How the first quarter performed is still part of your full year number. So just because the first quarter was good doesn't mean I have to lower the full year. What changed to your full year outlook margin from three months ago? Is it the acquisition dilution? It's nothing to do with first quarter, I'm not talkin -- I'm not speaking quarterly, I'm speaking about full year.

Okay, I want to -- It is acquisition entirely. But I did want to -- because you mentioned early in your question, you're talking about industrial North America, which represents 44% of our sales and for the quarter we're at 14.8% or less, and you know that the goal of the Company is 15, so we're very close. Industrial International is 29% of the Company and that ran at 13% operating margin or ROS. So you have 73% of the Company industrially around the world operating at 14% this first quarter. Then you have Aerospace, which represents another 17%, operating at 15.7. And then you bring in Climate and Industrial Control and we talked about the fact the Refrigeration is in the medium double-digit operating margin and Industrial. So other than if you go through all the segments then that we -- that we give you, mobile is the only one and we gave you the exact reasoning with regard to restructuring. So, that's it in a nut shell. I mean, we talked about the first half, second half. We talked about the fact acquisitions pem, talked about that in the very beginning, David, about that, during the first half, what we would see the first six months of an acquisition, we would see them, you know, that we're integrating. We have integration cost and then in the second six months, we pull out of that and begin to show the margins. So, that's it in a nut shell.

So, seeing a margin degradation and the outlook is dilution from acquisition to the margin?

Due to integration, yes.

That's right.

Yes, again -- this is Tim. I thought we covered that earlier.

Yes, I just wanted to make sure.

Okay, I thought we did.

We did.

We're talking pretty --

Yes, it's modest. I just wanted to make sure I understood why they went down, especially given the first quarter had a pretty good start to the year on the margin.

Alright, we understand each other. We're going to add a lot more in volume. We've already announced a lot of deals, a lot more volume. We're going to work like crazy to integrate them. It might nic the margins here 20 basis points or so. However, against a much higher revenue number and we'll roll this thing forward, so okay.

The thing we shouldn't remember is that the margins have increased consecutively. I don't want to mesh to that point. It's like, yes, we can talk about that, but on the other hand if you put our margins up for every quarter, you see improvement after improvement. Now you know the second quarter is our lowest quarter. But, you know, we have shown consistent improvement in our margins.

Our next question comes from David Bleustein with U BS.

It's late. Just a quick follow-on. The actual discount rate you used in your pension expense?

We lowered it from 6.25 down to 5.25.

That's what I needed, thank you.

A hundred basis point. I think at this time I would like to close the call. Don just has a few comments and I would like to thank all of you for your participation today and giving us a chance to have this time with you. So, Don will have a few comments then we will end the call. Thank you.

I'd just like to make a few comments. First of all, everyone here is ecstatic about the results for the quarter. Coming off a very strong year last year, where we set a lot of records, we're off to setting records again in sales, earnings, cash-flow. We exceeded our own guidance for the quarter and, of course, the street got ahead of us a little bit on the guidance, but we still exceeded the street guidance. So we ended up this quarter, you know, feeling very, very good about where we're at.

Nick outlined for you a little bit about the operating earnings. As you know I stated five years ago, now, that our goal is to get this to 15%. You can see how close we're getting in many of these segments, ending the quarter being the strongest quarter in a long time, even on top of last year's very strong quarter at 13.8%. We're closing in on that 15% goal. The comments that I made earlier on distribution, I hope everyone thinks about that, because it's very sig -- it's very important that our -- the financial community understands how big a piece this is of our total business. When you look at it, basically, it's as large as five or six of the OEM segments that we tend to talk about around here. If you add them up, it still does not -- doesn't come up to as much volume or revenue as the distribution part of our business. We can't lose sight of that, and I hope the financial community keeps that in mind as you're going through your analysis.

Obviously a lot of our segments are done well, the construction, the mining. I think we mentioned a lot of these, oil and gas, truck. We were talk -- we didn't talk much about the ser 13 but that's coming after January for the refrigeration part of our business, which is driving demand. We don't know what the impact of Katrina, the hurricanes are, but we suspect that there will be some volume, positive volume impact as a result of that, as they get the refineries and chemical facilities and drilling platforms back in order. That all uses Parker product. We don't -- we don't even put a number on that. We don't know what that will be, but I suspect there will be some coming down. We know we have heard from some of our distribution that that should be happening as well in the future here. So that's a positive.

We finished last year as I stated, as we stated at the end of the year, with our ROIC in the top tier of the diversified industrials. We're in the top companies in the diversified industrials. We're in the top tier as far as return on invested capital. We were ecstatic about that because, again, five years ago we said this was our goal. We think there's a high correlation between return on invested capital and price earnings multiples. We hope that still is the case. And as we continue to perform, as we have in the first quarter, with that same kind of performance, hopefully that'll be reflected in the stock price going forward.

Alex mentioned service. Not to talk a lot more about service, but it's never been better. It's never good enough. Everybody at Parker understands it's never good enough, but it's never been better for the Company and we are capturing business as a result of that. Others, for whatever reason, haven't been able to ship and Parker's shipping and we're ecstatic with that. That's a very, very big plus for the Company.

You heard about our acquisition activities. We've got a lot going on; there's going to be a lot more to come. The nice thing about the Company is we've got 115 general managers and group staff that all have relationships out around the world. This isn't three or four people in Parker that are developing all these relationships. Another thing to point out that these are not for sale signs that are out there. So that's -- the way we get a track to these is because somebody put a for sale sign out, and we're out there bidding on these. These are relationships that we've formed with these companies over many, many years. That's how we get to many of these transactions. Not a hundred percent of them, but many of them, is because of the relationships we've had for many, many years going back with our entire team.

The Win strategy is alive and well and we continue to execute on that. We exceeded the six points that we told you that we would exceed last year. We exceeded it a year early. We're still building on that. Nick talked to you about the new initiative to try to get the inventory down to $0.10. We recalibrated that to be a -- world class is more like $0.10 now instead of 12, so we don't have any problem doing that. We're making that recalibration and the entire team is working hard on making that happen.

The one thing we are watching, of course, is when you talk about the activity out there is, and the environment is interest rates. Of course, we also keep an eye on interest rates because we know that as interest rates get to high levels that drives demand for capital down and that has a major impact on the economy. So, hopefully, interest rates will not escalate to any great extent. They have already gone up about ten times here of late, but hopefully things will start to plateau at some point here, and if that's the case I think we see some very, very positive opportunities for it to continue growth going forward.

So, those are just some of my comments. We're looking forward to seeing everyone next week. We can go into more detail, clarify any points you'd like to and I look forward to see you all. Okay, thank you very much.

Again, Pam Huggins speaking, thank you very much for your time today, and I'll look forward to talking to some of you as the day moves along. Thanks. Bye-bye.

Thank you for participating in today's Parker Hannifin first quarter 2006 earnings release conference call. You may now disconnect.