派克漢尼汾 (PH) 2007 Q1 法說會逐字稿

Good morning. My name is DeShanta, and I will be your conference operator today. At this time, I would like to welcome everyone to the first quarter 2007 earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. [OPERATOR INSTRUCTIONS]. Thank you. Pamela Huggins, Vice President and Treasurer of Parker Hannifin, you may begin.

Good morning. This is Pam Huggins speaking. I'd like to welcome you to Parker Hannifin's First Quarter 2007 Earnings Release teleconference. Joining me today is Chairman and Chief Executive Officer, Don Washkewicz; and Executive Vice President and Chief Financial Officer, Tim Pistell.

We want to keep this call to an hour today, but as customary before proceeding to the Earnings Release, just let me take care of a couple of administrative matters. I would like to call your attention to the second slide, which is the disclosure on forward-looking statements and again, ask that you -- if you haven't read this that you would. Please read it in its entirety. Moving to the third slide, this slide indicates that in some cases, in order to provide meaningful data, comparison from period to period, non-GAAP financial numbers have been used. These numbers, however, have been reconciled to the appropriate GAAP numbers where applicable. For those of you online today, you may follow along with the slides that have been presented and for those not online, the slides will be posted on the IR portion of Parker's website at PHstock.com.

At this time I'll move to the agenda on slide four. First today, Don Washkewicz, the Chairman and Chief Executive Officer, will provide highlights for the quarter. After that I'll provide a detailed review including key performance measures of the quarter, concluding with the updated outlook for fiscal year 2007. The third part of the call will consist of our standard Q&A, and once again, I ask, please, limit your questions to one at a time. We want to give everyone a chance to participate. And for the fourth part of the call today, Don will wrap up with some closing comments. So at this time I'd like to turn it over to Don and ask that you reference slide number five.

Well, thank you, Pam, and good morning and welcome to our Conference Call. I just have -- want to make a few comments and then Pam, as she had mentioned, will get back into a little bit more detailed review of the fiscal year.

We're obviously very pleased with the strong start of our fiscal year. I want to take this opportunity to thank all of our employees worldwide who work so hard to deliver these record results for our shareholders, and especially their attention to -- thank them to their attention to our customer service and all of the key elements of our Win Strategy. We're performing basically due to their hard work and execution of the Win Strategy.

Some of the key highlights which I just will note, and, again, Pam will go into a little bit more detail on these, we set a new record for the first quarter at 2.6 billion. And that's now at a $10 billion-plus run rate for the Corporation and we're pretty excited about adding that additional digit in that sales number, so we're hopeful that we can exceed 10 billion this year and that'll be a tremendous accomplishment for Parker. Top line growth for the quarter was up again over 20% as it was last quarter, far exceeding our 10% goal. Organic growth for the quarter was over 8%, and we've achieved at least 8% organic growth for the last two years. I think that's one of the things that we've talked about in the past and some questions have arisen as to what we're doing to drive internal growth and you can see the -- the results of those efforts. Now, we're going to continue to emphasize internal growth and innovation which is part of the third pillar of our Win Strategy, and we'll be filling in more on that as time goes on.

We are also very pleased to report that our operating margin increased to 14.9% this quarter, and it's just shy of our Win Strategy goal of 15%. I know that some of you on the call have been waiting for a long time as we've been telling you that we're trying to get this to 15% and we've been projecting getting to 15% so it is starting to materialize and so we're very, very glad to report on these margins today. In North America, the operating margin reached 15.3, actually up a little bit, about 0.5% up from last quarter -- last year the same quarter. International Industrial segment was at 14.5 and that's demonstrating clear improvement in our International margins. And thanks again to the efforts of the Win Strategy, especially the European initiatives that we've been working on for the last five or six years, which are really driving improvement in our operations and our customer service. And you may recall some of those would be we opened several sales companies in Europe in the big three countries, we have new distribution centers now, we've consolidated all of our inventories and so forth and drove inventory down and drove our service levels up, so all of that is coming into play with respect to improvement in margins internationally. Aerospace margin -- segment margin was a very healthy 17%-plus this quarter, so we're very pleased with that. Climate Industrial Control margins are up almost 3% from a year ago, reaching 11.4 for the quarter. And we did generate strong cash flow which allowed us to contribute about $111 million to the Company's pension plans -- the employee pension plans, and also you may have noted in the release that we did repurchase 2.6 million shares of stock in the quarter as the stock was at a very depressed level.

Just a couple comments on the markets. Basically, we like what we see regionally and if you go around North America, OEM markets are steady. I would put the -- basically say they're steady right now, while Europe and Asia remain strong. Exceptions to that would be the Automotive which has been soft for us, and we also see softness in Light Trucks right now, and then the Air-Conditioning sales driven by SEER 13. Some of this is nothing new. It's been going on for some time now, but those segments remain what we would consider weak. Counter to that would be the Distribution part of our business, and I'll just remind everyone that that represents about half of our Industrial business, and that remains very strong and we really don't see anything changing in this -- in this area any time soon. So distribution is doing very well. And the only last comment I would make about the markets in our forecast is that we have about two months' visibility in our Industrial backlog and about one year in Aerospace backlog, so we're giving you the best picture we can based on the -- the discussions we've had with customers and the market outlooks that we project today.

So, with that I'm going to turn it back over to Pam for a little bit more detailed discussion.

Okay. At this time, I ask that you turn to slide six and beginning with earnings per share, Don mentioned this, but earnings per share on a GAAP basis for the quarter came in at $1.75 versus $1.43 in the fourth -- the first quarter last year. This $1.43, however, includes $0.24 from discontinued operations, and as you remember that was the sale of the Custom Engineered Building business that we talked about at that time. So excluding the $0.24, you can see that earnings per share was $1.19. That is the comparable number to the $1.75 and represents a 47% improvement.

Moving to slide seven, just to comment on the strong earnings growth on a consolidated reporting basis in the quarter versus the same quarter a year ago, it was due to increased volume led by International and CIC segments. They had increases of 41% and 26%, respectively. We also had a 200 basis point improvement in the growth process again led by the International and CIC segments with increases of 59% and 66%, respectively. As Don mentioned, higher share repurchases in the quarter and then we had lower Other expense as a result of the successful -- successful resolution of a litigation claim and then, of course, lower pension expenses.

Moving to slide eight, looking at the top line, sales for the quarter were 21% over the same quarter a year ago. Increasing sales to 2.6 billion from 2.1. Of this 21% sales growth, 11% is the result of acquisition, 2% is FX related, and then of course 8% organic. Moving to slide number nine, moving to this rather quickly for you so that we can get to the Q&A, the strong double digit sales growth in the quarter was the result of continued Industrial end market strength. Of course, Distribution remains strong, continued strength in the Commercial side of the Aerospace business and then continued progress in emerging markets. And also, continued strength of what we call SEER 13, Seasonal Energy Efficiency Ratings, although most of you know that that softened in the most recent orders. And then, of course, acquisitions.

Moving to slide ten, segment reporting and income from operations starting with North America specifically, core sales increased 3% in the quarter, acquisitions added another 5%, resulting in a total sales growth of 8%. Operating income is 12% higher for the quarter versus the same quarter a year ago, and margins increased to 15.3% from 14.8%, a 50 basis improvement. Again, surpassing the 15% goal. Moving to slide 11, continuing with the Industrial International segment, core sales increased 11% for the quarter. Acquisitions added another 25%, and foreign exchange, again, mainly the Euro, added another 5% resulting in a total increase in sales of 41%. Operating income for the quarter is 59% higher than the same quarter last year, and operating margins increased from 13% to 14.5% in the quarter, 150 basis point improvement. The main drivers of sales and operating income growth in the Industrial segments are, again, continued end market strength, the acquisitions strategy, the 'one face to the customer' initiative, higher production through current facilities, and, of course, continued success of the Win Initiative. Moving to slide 12, touching on the Aerospace segment, operating income for the quarter is 25% higher on a 15% increase in sales, and this increase in operating income on a quarter-over-quarter basis is the result of higher volume and a higher mix of commercial after market business. The higher Aerospace margin of 17.1% is an increase of 140 basis points from 15.7% a year ago. Moving to slide 13, Climate Industrial Control segment. Again, sales increased 26% in the quarter and operating increased 66% versus the same quarter a year ago. Margins increased from 8.7 to 11.4%. This improvement is due to volume, less restructuring charges that we've talked about on the last couple of calls, and of course, the savings as a result of those measures. Of the 26% increase in sales for the quarter, 13% came from acquisitions, 12% organically, and 1% from FX.

Moving to the order rates on slide 14, you can see that orders were strong during the quarter. We're pleased with the order growth as it provides further confirmation of the expected strength in sales as we continue to move further into fiscal year 2007. As you know, orders are stated as a percentage increase over the prior year, and it does -- they do exclude acquisitions and currency. As you see in September, orders were up 10%. In North America, order growth was 7% in September and that's on top of 8% a year ago and 18% 2 years ago. This illustrates that order growth remains at a healthy level. Industrial International order growth was 17%, and this was on top of 4% a year ago and 12% 2 years ago. So as you can see, International orders remain at a very high level. Aerospace continues to be strong on both the Commercial OEM and MRO side. Orders were up 18%. This is on top of 8% growth a year ago and 19% the year before that. And remember that Aerospace, due to the volatility from month-to-month, is reported on a 12-month rolling basis. In the Climate Industrial Control segment, order strength does anticipate it has moderated due to SEER 13, but orders grew by 19% and 20% in July and August, respectively. But as you saw, declined in September.

Moving to the balance sheet, Parker's balance sheet remains strong. Cash on the balance sheet at quarter end was 176 million. Inventory in terms of DSI is down 2 days to 68 from 70 last year. Accounts Receivable in terms of DSO, it's 2 days higher, mainly due to the acquisitions. And moving to slide 16, just to touch on the cash flow again, as Don said this, but just to say it again, we made 111 million contribution to the pension plan. And I just want to point out that last year, we made that contribution in the third quarter as opposed to the first quarter. And of this 115 million in cash flow, we used 58 million for capital expenditures. That's 2.3% of sales. We consumed 33 million of it for acquisitions, and 196 million for share repurchase. As a result of this, debt did increase by 368 million; however, looking at the next slide, slide 17, you can see that the debt to total cap ratio is 23.6%; however, if you take into account the 175 million that we have on the balance sheet, on a net basis, the debt to total cap ratio is 21.1%.

At this time I'll move to the guidance. The guidance is addressed on slides 18 through 20. On slide 18, you can see the guidance by segment for sales and operating margins. Slide 19 details the guidance for the below the line items, as we call them. And today, I'm not going to recite the guidance detail by segment as you have the slides in front of you and I want to save the time for Q&A. In summary, however, on slide 20, the guidance on an earnings per share basis from continuing operations is $6.05 to $6.45. This is an increase from the previous guidance of $5.80 to $6.30. Please remember that the guidance excludes any acquisitions that may be made moving forward in fiscal year 2007. And to provide just a little more clarity for you, the sales and earnings will be more evenly weighted in the first and second half of the year.

Okay. At this time, I'd like to open it up for questions.

[OPERATOR INSTRUCTIONS]. Alex Blanton with Ingalls & Snyder.

Good morning.

Good morning, Alex.

When you said evenly weighted, you meant what?

That the sales and the earnings will be evenly weighted the first half versus the second half.

The same or just more evenly weighted than prior years? What do you mean exactly?

Well, it'll be more evenly weighted than prior years, and it'll be more evenly weighted than what we originally thought in the previous guidance.

But you're still going to have second half bigger than first; is that correct?

Actually, what has happened, because we had such a great quarter in the first quarter, okay, we've restated the guidance including that great quarter and we see that based on the orders the second quarter is going to be a little better than previously thought, but that the second half is scheduled to be a little weaker.

A little weaker than previously thought?

Right.

Because your guidance went up $0.25 at the low end, $0.15 at the high end, but then quarter was $0.27 higher than consensus. You didn't guide for the quarter, but it looked like you grazed the guidance less than the earnings prior to the first quarter.

Yes, and that's reflected in the second half of the year because of some of the weakening in the markets that we've seen.

What kind of weakening are you talking about?

Mainly auto.

Auto mainly?

Yes. As you recall, when we put out the orders last time, CIC was down 13% and that was due to Automotive as well as the Residential Air-Conditioning.

What percentage of your sales is auto-related?

About -- it changes over time. It depends which time you look at it, Alex, but for the most part about 8%.

Okay. Okay. Second question is this: Your order rate, your orders -- overall order rate, I'm talking Company as a whole, up about 12% whether you look at the last two months, the last three months, the last five months, it averaged up 12%, but your organic growth rate and the orders are organic, your organic sales growth in the quarter was 8%, so how do you account for that dichotomy?

Alex, this is Tim. I mean, clearly, there is -- has been a little bit of build on the backlog; however, we're also going through the throes with the Automotive right now who are, frankly, rescheduling everything too, so I think there's -- it's a bit of a mixed situation right now.

Are you saying that you didn't ship a lot because that had been rescheduled so that's why there's a shortfall there?

No. We've shipped mainly -- I think we've shipped to their requirements. But I'm saying is that they typically give you three months or more of requirements and we have -- that's all we usually load into the backlog is we don't go out more than that. But recently, we've had, at least in the big three in the U.S. who basically have pulled all of those back and we're having to re-input those and so we're going through that sort of --

I don't see how that could account for it. I mean, there's a 400 basis points difference between the order increase and the sales increase.

Well, again, I'd say there's -- that the one thing that I said we built some backlog, and that we're going through that exercise right now to rework it, but we do occasionally build backlog and then obviously we work out of backlog on other dates.

Okay. Well, thank you, but anyway, it was a terrific quarter.

Thank you, Alex.

Thanks, Alex.

David Raso, Citigroup.

Hi, good morning.

Good morning, David.

Question on the guidance as it relates to the margins. If we look at what's implied for the rest of year on North America, margins generally should be similar the rest of the year versus the first quarter. So intuitively, you begin to feel some truck later in your fiscal year, obviously auto, a little more of a North American lean. So I'm not sure why that one would stay the same, while at the same time, your other divisions -- if you're looking at International, it just came in at 14.5 margins and the rest of the year's only implied at 12.1. Aerospace just came in at 17.1, and you only implying 14.5. So I'm trying to figure out why the one area geographically you could logically see why the margins are coming under a little pressure due to auto and truck. That might go down, and the other ones I'm not sure why their margins would collapse so much from what we just saw in the first quarter.

Well, let me try and address this for you. If you look at North America, okay? Our original guidance -- you have to remember there's some acquisitions in there. Small -- small as it may, but there are some acquisitions that we made that affects that, okay? So if you look at the guidance previously and then what we're presenting today, what we did is we baked in the first quarter -- we baked in the first quarter, great quarter into that guidance, okay? But in the second half, it's reduced a little bit based on caution with respect to the auto. The auto came in deeper than what we thought that it was, and so the second half, there is some -- like I say, it's been reduced but minor.

Is is fair to say, though, the auto should show up mostly North America in Climate and Industrial Control?

That's right.

That's why Climate and Industrial going down from 11.4 this quarter to the rest of the year 10.1, completely understand that. But North America, and when you throw a truck on top of it, at a minimum fiscal fourth quarter --

David, 10.1 -- yes, 10.1, it's 10.1 to 10.7 is the guidance.

Oh, I understand, but by doing 11.4 in the first quarter Climate, the rest of the year is implied at 10.1 and I could understand that. Auto's going to hit that division. Truck'll hit -- truck will hit North America at a minimum starting in March and to the rest of your fiscal fourth quarter. So North America maintaining margins the rest of the year versus the first quarter isn't that logical on the negative side, but in International and Aerospace what's going to happen to those margins to go from 14.5 in International this quarter to 12.1 the rest of the year? Aerospace from 17.1 to 14.5?

Let me address Aerospace. Aerospace mainly is the result of the mix. We had a high proportion of after market, okay? Commercial after market that caused those margins to be that high.

And why was the shipping --

Okay?

-- why was the shipping that unique in this quarter? Because generally speaking, when I saw the Aerospace margin I was pleased at how high it was because we've been talking about more big airframe commercial driving the mix was going to draw the margin down. Obviously that didn't happen this quarter. What was unique about this quarter in after market that's not going to continue?

Well we had some Apache and Blackhawk -- we had some Apache and Blackhawk orders that were unusually high that we don't feel will project forward. The other thing that you're seeing in there is a little bit of legal costs in connection with some problems that we had on patent infringement.

And that starts to show up in the coming quarters on Aerospace?

No, it's the reason for the first quarter being so high.

Oh, I apologize.

17% is unusually high.

So legal costs were lower than normal in the first quarter?

It was a gain.

It was a gain?

Yes. There was a gain.

It was a legal resolution.

There was a resolution, David, and there was a -- some -- yes, a gain. There was some moneys that came back.

How big? How big? Are we talking 5, 6 million because if you take out 5 or 6 million, then you're back to a 15.5-ish margin for Aerospace for the quarter and that makes a little more sense.

I don't think we're going to get into that minutia. As I say, there was -- there was a credit that came through on that resolution of that and claim and also again, I think it's been pretty well explained. There was a heavy -- like I say, we enjoyed a very heavy mix in the after market side, more than we had anticipated and we certainly don't expect that to continue. We do know that going forward that the commercial is going to stay strong, but also in staying strong, we are ramping up and spending quite a bit in non-recurring engineering. We've spoke about this before. That group is investing probably 1 or 2% of sales in non-recurring engineering right now because of the new wins that we've had, the new programs including the Dreamliner. So, as I say, they had an extraordinarily good first quarter, one little settlement mostly driven by the heavy after market.

And just so I don't -- I don't want to hog the call, if you could just then answer my other question about International. Why would International go from 14.5 margin this quarter to 12.1 the rest of the year? Thank you.

Okay, well, and again, I think, David, on that, the -- clearly the first quarter was tremendously strong. We had a situation as you know where especially in Europe, a lot of plants closed down over the slow periods with our customer service initiatives, we have more and more people who are continuing to man the plants -- our plants, and ship and meet the customer demands and a lot of the production workers are gone and you have strong shipments you end up with a very, very good first quarter, so we did, we like it. How much of that's sustainable going forward? We don't really know, so I think we've brought the margins back to what we had more closer to our original expectations for the other quarters.

David, just another thing. You remember last year in Aerospace we had an extremely strong quarter in the first quarter as well, and then it came down.

Thank you very much.

Ann Duignan, Bear Stearns.

Hi, good morning. It's Ann Duignan, and congratulations on a great quarter, guys.

Thanks, Ann.

I would just reiterate David's questions and some of the margin outlook is a little confusing given that -- how strong Q1 was, but I'm a little confused on the outlook for North America revenues. North America industrial had 3% organic growth in Q1. You've revised your growth from 5% mid point to 4.2% mid point, and this implies that this market is going to accelerate, yet you said on the call that Q2 might be a little better but the second half is going to be worse. I guess I'm a little confused.

Well, Ann --

Where is the acceleration in growth going to come from given the auto exposure, the residential exposure and in fact the truck exposure also in North America?

Ann let me clarify this for you. First of all, we have to remember that our second quarter is always worse than our first quarter. We never perform as well in the second quarter as the first quarter because of the holidays and that type of thing, and we're not projecting that it's going to get better. You have to remember that 4.1% includes acquisitions. If you look at it on an organic basis, you see a little bit different picture.

But organic growth in Q1 was 3%.

In Q1 was 3%, and the organic growth in the guidance going forward is less than that for the year.

Okay, so you have embedded some downturn -- more downturn in auto --

Yes, there's acquisitions that we made that affected that number, right.

Can you just remind us how much your exposure is to the on-highway class 8 market?

Our truck -- our truck -- in total for the heavy duty truck, we have less than 5%.

Okay. Less than 5%?

Yes.

Okay. And --

I mean, depending on when you look it's between 4 and 5.

Okay. And auto is 8% and then residential related?

It's really tough to break out the residential, Ann. We obviously have some exposure in CIC because of the residential air-conditioning and on the -- because of the -- yes, yes. But residential air-conditioning, it seems to be more prevalent in CIC where you can really see it. Once you get beyond that, we sell on all the construction equipment, and it's very difficult to break out the residential versus the commercial.

Yes, and I appreciate that obviously with the mobile equipment, it's hard to tell where those products are going.

That's right.

So let me just reiterate. 3% organic growth North America Industrial Q1, expected to slow for the remainder of the year?

Right. Just a little bit.

Okay. Thank you. I'll get back into line.

Okay, thank you.

Andrew Casey, Wachovia Capital.

Good morning, Andy.

Good morning, Pam and everybody else. Question on the cash allocation. Some of your kind of multi or diversified industrial competitors are talking about a very strong pipeline of acquisitions. Can you comment on what you're seeing?

Well, Andy, this is Don. We are obviously looking at a lot of different candidates right now, and have been all along. And the tough part of that whole process is to know what you can get to the finish line, but I can assure you -- then we did announce a couple small ones -- excuse me, I just got a call here. We just announced a couple of small ones recently. There's a number of other ones that we are obviously looking at. I would say it's no more or less than what we've been looking at as far as numbers of candidates probably in the last 12, 18 months, so this is an ongoing process.

Okay. And then if you could address the comment you made about OEM being steady in North America, distribution being pretty good. Should I read half and half that distribution's kind of mid to high single digits, OEM's kind of flat right now?

I would say that's probably not too far off. I'd say mid to high single digits would be good for distribution. Distribution's been strong for quite a while here, and like I said, I don't anticipate that -- that that's going to change any time soon. As far as OEM, well, you already heard about the slowing segments -- well, the automotive has been slow, so that's nothing new. Light truck and then the air-conditioning portion of that being what we would consider slowing segments, along with a little bit semicon as well; okay? On the positive side, of course, we would see Europe as being very positive; distribution, as I mentioned, would be very positive, mid to high single digit kind of rates; Asia's very strong. And then a couple other segments we don't talk about -- again, all of these are small pieces but they all add up eventually is oil and gas and mining, Aerospace commercial of course is strong, power generation's doing well. Heavy duty truck right now is doing fine. I think as we all know probably March, April of next year that's going to trend down, and we talk about construction equipment and it's like Ann said, it's hard to tell where that equipment's going. But we know that there's a little bit of a trade off there, too, because we know that there's a lot of commercial activity going on with -- as well as road building offsetting some of that residential build. And the residential build, I guess, the numbers I'm seeing is if it drops to 1.6 million, that's not too -- that's not a bad level of activity either, so -- and then I would say flat yet, what we consider flat would be Latin America and Ag is still pretty flat and military. So that's kind of in a nutshell where -- what we're looking at as far as overall markets.

Thank you very much.

Thank you.

Robert LaGaipa, CIBC World Markets.

Good morning.

Good morning.

Just had a few questions for you. I guess one was just on the gross margin in the quarter can you maybe just talk about what drove the gross margin just in terms of pricing? I mean, how much -- how much is true pricing versus volume? Because obviously not only sequentially but from a year-over-year basis, the gross margin improved fairly substantially. Just trying to get a sense of what you're seeing in terms of pricing.

Robert, this is Tim Pistell. The -- the biggest difference on that gross margin, frankly, is just the level of activity that we are clearly running at a much higher rate than we were earlier and the utilization of the plant is much better. And as I indicated earlier, we're trying to sort out how to work through the vacation shut downs in a better fashion and do the best we can, so really and truly, the biggest difference has been that. Now, that is coupled with the Win Strategies again. We have the procurement, we have the lean enterprise, we have the pricing, and those three working in conjunction with each other, it continue to add to our efficiencies productivity and enhance those margins, but I give the biggest credit to just operating at a higher utilization.

Can -- do you have any sense of how much this was pricing in the quarter maybe versus the last quarter?

No, we -- we don't really track that. Again, what we do is, as I say, our mission in life in the strategic pricing is to make certain that our pricing are always keeping step with our cost increases, be it labor, or material, what have you. And so that's -- we're very diligent on that and clearly always trying to receive a fair price for our products, but I wouldn't say that that was a big contributor in the quarter on the margin gain.

Well, how about on the raw materials side then? I mean, did you see any specific raw materials that are maybe a larger percentage of your cost of goods sold that might have fallen off in the quarter? Maybe you just -- you can't tell me exactly what the pricing is, but even if pricing was flat maybe on the raw materials side you might have saw some of this raw materials come down, or alternatively you got better pricing and offset some of the raw materials that maybe were a bit stronger. What can you tell us just on the raw materials side?

Well, basically, one of our largest raw materials is steel and that's flattened out, I think I mentioned that last quarter, that we see that kind of flattening out over time. The -- the areas where there's still some pressure -- upward pressure is still aluminum, some high nickel alloys, brass and copper and products like that, there's still upward pressure in all of those commodities, but at a decreasing rate I might add. Not like we saw a year ago where it was escalating at a very high rate. We still see small increases but at a decreasing rate, so no major drop-offs, but a moderation in raw material increases is kind of what -- the way I would depict it right now.

Okay. And last question, just on some of the line items below the operating line, can you maybe just talk about some of the changes versus what you were originally expecting? One, I guess in the corporate and administrative front. I think originally you were expecting it to be up about 4 to 6%. Now it's going to be up about 5 to 8%, the interest expense, also the other income, some -- the change there, can you maybe just talk about what those -- what's driving those changes?

Yes. I would say that on the Corporate Administration, it really didn't change much at all, Bob, but with a good quarter, what happens is the way that you have to accrue for incentives, it's just a timing-type thing. You have to accrue for it after it occurs so that's just incentive-related.

Okay.

On the interest expense, as you know, we're doing some -- we did the repurchase of shares, okay. We have a little more depth than we did before, but again, the change is very minor on that in terms of absolute dollars.

Okay. Terrific.

Okay?

Thank you very much.

Jeff Hammond, KeyBanc Capital Markets.

Hi, good morning.

Good morning, Jeff.

Pam, I think you said -- did you say you had a litigation benefit in the quarter for Aero? Does that -- did that help lift the margins?

We did, we did.

Did you quantify that or can you?

No, we didn't.

I mean, was it -- pretty material or nominal?

Let me put it this way: I don't want to say that that's the total reason for the 17.1% but it's a contributing factor.

Okay. And then on the auto front, I mean, a lot of moving pieces there, but I think you had mentioned on more than one occasion some new programs coming on online, and I just wanted to better understand how that plays in in terms of balancing some of the weakness there. And maybe you could just update us on your diversity within the big three and outside the big three within your auto exposure.

Sure. Jeff, this is Tim. Yes, you're absolutely right. We -- clearly, the big three here in North America are really having some issues. Those are some tough situations. We are focusing more of our efforts to, frankly, the Europeans and sort of the Japanese people, both here in North America but in the offshore and trying to gain market share on those platforms. And I think that we have -- are making some good inroads on that, but much like the Aerospace, it takes a long time to secure that win and then they don't bring them into production right away; then they ramp up. So we're in the throes of, if you will, suffering from the slowdown, the downturn, some of the woes of the big three and working hard to gain on the other folks.

And what would you say of that 8% exposure to big three versus other?

Well, I can't answer that off the top of my head, and the other thing I would point out in that 8% that probably a couple of percentage of that 8 is not on vehicle. Again, we sell to the auto guys, and a lot of it -- maybe, let's say 6% of it goes on vehicle but 2% of it goes into the plants. Now, ultimately, if the big -- if those people don't do well selling cars, then they're not going to do well in expanding their plants or whatever, so we have to -- anyway, there is a split there, and that percentage also is, of course, it gets glommed together with the light trucks as well. So it's auto, light truck is the 8 and probably 2 of the 8 goes in plant and the rest is on vehicle.

And then -- and then finally, there's been a healthy debate, I think, between you and some investors in terms of best use of cash and share repurchase and you really stepped up this quarter. I just want to understand better, is that just identifying the low stock price, a change in philosophy, or some indication of lack there of acquisition opportunities?

Yes, there really is no change per se. What we have here, and I think we've said this -- this is Don, by the way -- the last quarter, I believe we announced that we will do 20 million a quarter in share repurchase as a normal course. And then we've -- we have a formula that we use based on how we value Parker Hannifin, and when we see an opportunity when the price is depressed, as it has been of late, we took advantage of that opportunity to buyback shares. That's really an opportunistic buy and that's based on a formula that we use and we update that on a regular basis. Our priority -- or a cash deployment priority remains the same. The first is for dividends. And you remember that last year, we increased dividends 18%; this year, 13%. And we were bringing those levels back up to more competitive levels out there, and I think that we're approaching that point now. The second priority is, of course, to support our organic growth -- internal growth, both with plant and equipment and innovation, funding those activities and we're funding more in the area of innovation now than we have in the past and you'll hear more about that as time goes on as well because we have more coming through the pipeline there. That brings us down to the third priority which would be supporting our 10% growth goal. And as you know, we've stated in the past that 5% of that roughly would come from acquisitions, and that would be funded from free cash flow and that's how we're targeting that cash. And then lastly, I would say after we've done those three that share buyback to offset creep would be something that we'd do, and that's the 20 million I spoke of quarterly. And then opportunistically as you've seen here of late, as part of share buyback. And then if we have money left over after that, we'll look for other opportunities amongst all of those that I just mentioned. So that's -- that's pretty much how we -- our strategy for deploying cash.

Helpful. Thanks, guys.

Thanks, Jeff.

Mark Koznarek, Cleveland Research.

Good morning, Mark.

Good morning. Question on the acquisitions, the ones that you did last year. I think in the last conference call, you stated that cumulatively your '06 acquisitions had a negative impact on margin of 40 basis points over the course of last year. And in the analyst meeting about a year ago, you talked about this rapid integration strategy where you are trying to hit the integration very quickly and absorb expenses quickly to get the properties in your -- basically into the infrastructure. So now that we're a year -- into year two of these acquisitions, can you comment on whether they're still diluting margin, or whether they're -- they've flipped over to be accretive to margin in aggregate?

Mark, this is Tim. And I'm very happy to say that the ones -- the larger ones we did last year now are pretty much fully integrated. There are some lingering things to be done in some of the larger, but largely fully integrated and they are hitting their margin expectations -- hitting or exceeding and they certainly are not a drag on the margins. And I think that you can see that as you go through these numbers, you can see the performance. I think the quality of these earnings is superb. I think you -- as you can see that, I mean, the growth and the top line are all very healthy, and the margins you noted are up pretty much across-the-board and the quality is just excellent. And we wouldn't be able to do any of that if the -- all of those acquisitions which were sizeable weren't performing to plan. So at this stage, we -- again, we think that they are doing well as are the base businesses and across-the-board, this is -- this is an extremely high, high quality quarter for us. A lot of things went well for us, and -- and we're really commending our employees with -- for such a strong performance in the quarter.

Tim, just a follow-up on that, when you guys closed on the domnick hunter acquisition, you had a separate conference call on that and you pointed out there was going to be some purchase accounting that was rather significant there. Has that rolled off yet, or is that something that's still going to be with us for a period of time?

Well, as a matter of fact, I sat in a meeting yesterday. We just about have that wrapped up. There is some shifting that's going on between intangibles, goodwill, and all; but we have that just about done as we're at the annual date, and frankly, there is not a material difference in anything coming out of there, okay? There's been some adjustments, but they're going -- it's going to be nothing material to the -- to the margins going forward.

Okay. Thank you.

All right

Jamie Cook, Credit Suisse.

Hi. Good morning.

Good morning, Jamie. Hi, Jamie.

Nice quarter. My first question, back to a question that was asked earlier. I guess given the weakening in some of the markets that we talked about in North America, in your forecast, are you assuming because of the weakening markets there's any -- anymore pricing pressure which could be contributing to -- to the margin forecast we have for '07? And the reason why it's not higher?

No. I don't think so, Jamie. Basically, if you think about what we're doing here, if you reflect back to the last couple years, we are using exactly the same methodology that we've used in the last couple years and I think if you reflect back on at this same point in time in the last couple years and how we ended those years, we did pretty good, overall, as far as our projections. So -- so I would say what we're doing here is nothing different than what we've done in the past. There's really nothing different that -- as far as the approach is concerned.

Okay. And then just back to your forecast on the Aerospace margins. You've talked about R&D and you mentioned it before when we looked at your margin forecast for '07, but I guess that's something we've known about for awhile, so my question is: In '07 has that been bumped up since you gave your previous forecast, or is it still about the same level?

Jamie, this is Tim. The -- not really. I mean, the thing is, we told you that the '07 for Aerospace will be an interesting year. They will -- they are going to -- the mix will change. Much more of it will be commercial and much more commercial OE and along with that and some of the big wins that they have made will be this -- what they call -- it's not R&D. It's non-recurring engineering. So there's just things that you have to do, and you have to write these engineering costs off, of course, confident that the projects are going to go forward. I think the Aerospace is very much on plan, as we've told you. We wouldn't change a thing except in this quarter, we had a very healthy quarter in after market business, both commercial and, in particular, in the military, as Pam said, on the helicopters, so they benefited from a great quarter.

Okay. And then just my last question, when you look at your forecast on the International, your sales are picking up. Is most of that organic, and if it is, shouldn't we see -- because of what we're seeing in Europe, because of emerging markets, shouldn't our incremental margins in rest of world be increasing going forward, and if not, why?

Yes, they had that split on the sales increase, the 41%. I don't have it in front of me.

But I thought organic was 11, but my point is when you forecast going forward, it's going up, so I would assume because your sales forecast is going up it doesn't sound like acquisitions are going to be a big drag, but as we look at incremental margins going forward that should be improving.

Yes. Well, the one thing that I think that a lot of people miss in the International, too, is is the currency impact. We never build currency impact into that number so when we're looking at the number we need to remember that.

But outside of currency impact there's nothing else that I'm missing?

No.

Okay. Great. Thank you.

Robert McCarthy, Robert W. Baird.

Good morning, everybody. Very impressive quarter.

Thank you.

I really just need to follow-up two or three of the things that have been talked about earlier on the call. I just want to make sure, first of all, on the two percentage exposures by end market that you were talking about, the 8% for heavy duty truck

No.

No, that's auto and light truck, 8.

I'm sorry, I -- my apologies, auto 8, and heavy duty truck 4 to 5. In both cases those numbers are relative to total revenue?

Correct.

Right.

Okay. And the heavy duty truck number is a North American number only?

No, that's a global.

And so can you help us there at all with relative exposure to the two North American heavy truck versus rest of world?

I can't. I don't know.

I think most of it would be North America, the majority of that. I can't give you the exact split, but the majority would be North America.

That's what I assumed, but wanted to make sure. Similarly, when you were talking about the non-operating items, if you will, corporate admin, interest, Pam, I think you got cut off before you had an opportunity to explain the change in the other expense and income forecast. Was that just a function of your experience in the first quarter?

Yes. Yes, and there was some non-recurring items in there ,and we don't assume that those non-recurring items which were gains will carry forward.

Okay. And with regards to International Industrial margins, can't help but wonder if, similar to Aerospace, did you have something unusual that helped contribute to the favorable comparison on margin in the quarter that then wouldn't replicate later in the year and would help explain people's confusion about margin levels there?

Well, Rob, this is Tim again. I think the one thing that did occur, again, it was the fact that in Europe, we're figuring out how to continue to ship to customers even though plants are shut down and so fourth. And so that can give you a good answer if you can let a lot of your people go and you're not running the production but you're able to continue to ship out to meet customer demands. I think again, we've -- we've sorted that out and -- a little bit. So that's part of what helped us in Europe, that and a fact that as I think everyone knows, Europe is doing very, very well right now. I think everyone I talk to, everyone is very pleased with the strength in Europe.

Okay. But no legal gains or anything like that?

No, no legal gains.

And I -- if I -- I think the logical inference from the way you're describing a little bit of a change in business model there is that we'll see, what? Greater seasonality, if you will, in -- or maybe greater volatility, a wider range of margins through the year in International that gives you the ability to do more when you're doing well, but you'll have some extra staffing costs in softer quarters?

Well, it could be. We'll have to wait and see, yes.

Like you said, it's still early days. Last -- the last thing I wanted to ask you about was the well-publicized delays on the A380. Could you just talk about how that is impacting Aerospace, how it impacts your forecasts, if at all?

Yes, I can -- there -- as a result of A380, there has been some delay in terms of revenue, okay? But it's at no margin for the most part.

And -- and I'm guessing maybe no delay in the expenses associated -- the engineering expenses, on the other hand?

Well, the cabin video monitoring is still going forward so we're full bore with spending R&D on that.

Okay.

But you're right. I mean, we are incurring expenses today and it's in our Aerospace numbers supporting that platform, if that's your question.

Well, I'm just thinking that the -- that you may, I mean, you have to do that, I understand that.

Right.

But the trade off may be a little more negative going -- for the rest of the year than you would have hoped a quarter ago when you first made the forecast?

Yes, and all that's in the forecast now. All that's in the numbers that you're looking at.

Very good. Thanks, Don. Thanks, everybody.

Sure.

Okay. In order to stay to an hour here, we have time for one more -- one more question.

Yvonne Varano, Jefferies.

Good morning, Yvonne.

Good morning. Just a couple things. On the Aerospace side, we've talked about margins a lot, but what about on the top line? I'm wondering if you could comment there because we had 15% growth in the first quarter. Your orders are coming in in the teens and we're looking for high single digit growth there.

Yes, Yvonne, this is Tim. Again, that's absolutely right and, again -- going back to the earlier remarks, what we're seeing is some nice surge on the commercial OE side. Very, very, very long lead times. Those lead times can be one year or even two year long, so what you're seeing, it bodes well for the future for Aerospace, but there's -- that -- there's that disconnect there.

A disconnect in that you're seeing it in the orders, but it's not going to show up in shipments for awhile?

Right. They -- some of the stuff they make in Aerospace, it really is a one year -- it's a one year, 18 month lead time so yes, exactly. This is why we have over a year's worth of backlog in Aerospace; and Industrial, we only have six weeks. It's sort of a real dichotomy.

Okay. At this time, I'd like to turn it back to Don so he can just -- he has some closing comments and then we'll wrap up the call. Thank you.

Okay. Thanks, Pam.

Needless to say, we're off to a very, very strong start in '07. Just a couple comments that I'd like to make. I would like to first of all thank you for your time and your questions. I thought they were very good questions. The results that we are achieving, again, go -- are a direct result of the execution of our Win Strategy and, again, we launched that six years ago. We've been talking about it for six years. It's something that is not going to go away and we'll be talking about it forever around here because it is delivering the results that you're seeing today. The focus of the entire effort is to drive return on invested capital, and that the goal -- our internal goal just as a reminder is to maintain our return on invested capital at the top quartile of our peers, and we're right at that top quartile as we speak, so things are going very well. The Win Strategy also encompasses all of our growth initiatives, so it's not just a operating cost-type strategy. It's also growth and innovation. You heard earlier in the presentation, I think, with some of the questions about the acquisitions. I'm very, very pleased with the acquisitions. We acquired $1 billion worth of business last year. And I don't hear too many other companies that can make these kind of -- this number of acquisitions. We had 13 at $1 billion, and over the last three years about 1.6 or 1.7 billion. And to be able to bring them in and bring our margins up to a level they are today is, frankly, I think, unheard of. So I think we're doing a spectacular job. I think the integration efforts that we have going on in the Company are really, really producing great results for us. And it just goes to show you that the good properties that we are acquiring here, I think, it all goes to show that we are really bringing on some very, very good performers, so just a comment on -- on acquisitions and again we're very active in that field.

Organic growth, again, we talked about it earlier, 8%; and that's been going on now for two years. We're excited about that. There's a lot that we have going on internally, specifically, with respect to innovation that is going to continue to drive that number going on forward. Our growth target is 10%. I think we've mentioned that a number of times, and we do want to make up half of that from acquisitions. And if you look over historically at our growth of the Company, we now have a 5- and a 10- and 20-year rate that's approaching 10% in all of those periods. So what we said we were going to do we're really doing with respect to growing the Company over time, so hopefully everyone becomes more comfortable with that, the fact that we can execute on our strategy. Strong cash flow for the quarter, $225 million and that's, again, before discretionary pay outs to the pension plans. We did that, as Pam mentioned, we did that a little earlier this year than last, so we're happy to do that, and support those plans. Just wonderful income from continuing operations and earnings per share. They reached a record for the quarter up 47% from last year. And then just to repeat, I mentioned this earlier, that this is the 50th year now of increased dividends, and we did increase them the last two years in aggregate about 30%. So just -- boy, it's fun being on a call when you have a quarter like this, and -- and I think that we're off to a very good start for what's going to turn out to be a very nice year for us.

So once again, I want to thank you for your -- your participation in the call, and we certainly appreciate your interest in Parker, and then, again, as always, Pam will be available should you have any further questions for the balance of the day. So thank you very much, and have a great day.

Thank you. This concludes today's conference call. You may now disconnect.