濱特爾 (PNR) 2007 Q3 法說會逐字稿

Good afternoon.

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

At this time I would like to welcome everyone to the 2007 third quarter earnings conference call.

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

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

(OPERATOR INSTRUCTIONS) Thank you.

I would now like to turn the call over to Mr.

Todd Gleason, Vice President of Investor Relations.

Please go ahead, sir.

Thanks, Lindsey, and welcome to Pentair's third quarter earnings conference call.

We're glad you could join us.

I am Todd Gleason, Vice President of Investor Relations, and with me today is Randall Hogan, our chairman and Chief Executive Officer and John Stauch, our Chief Financial Officer.

On today's call we will provide details on our third quarter and year-to-date 2007 results as well as update you on Pentair's outlook for the remainder of 2007.

We also introduced 2008 for your guidance.

Before we begin let me remind you that any statements made about the company's anticipated financial results are forward-looking statements subject to future risks and uncertainties such as the risks outlined in Pentair's 10-K as of December 31, 2006, and Pentair news releases.

Forward-looking statements included herein are made as of today and the Company undertakes no obligation to update publicly such statement to reflect subsequent events or circumstances.

Actual results could differ materially from anticipated results.

Today's conference call is accompanied by a presentation which can be found in the financial information section of Pentair's website at www.pentair.com.

We will reference these slides throughout our prepared remarks.

Any references to non-GAAP financials are reconciled in the appendix of the presentation.

As is our custom, we will reserve time for questions and answers after our prepared remarks.

I will now hand the call over to Randy who will take you through Pentair's third quarter results and highlights, provide his perspective on the markets in which we operate, and describe the detailed productivit actions we are taking to ensure we deliver expected results this year.

Then John will conclude our formal comments with an overview of our fourth quarter and full year forecast as well as discuss our 2008 outlook.

Randy.

Thanks, Todd.

And thank you all for joining us today.

Let's begin by reviewing our third quarter results shown on slide #2.

Looking at our third quarter performance, we're pleased to have delivered $0.58 per share of earnings from continuing operations on revenue growth of 8%.

The $0.58 of EPS includes an $0.11 benefit 2148 from a non-recurring tax item as well as a negative $0.06 impact from additional restructuring actions we took in the third quarter.

Adjusting for these two items our earnings per share was $0.53 versus our guidance of $0.48 to $0.51.

This is up 29% versus the third quarter of 2006 adjusted earnings per share of $0.41.

John will provide additional detail on the reported and adjusted earnings per share results a little later in the presentation.

Let's review the highlights of our performance.

Overall, Pentair third quarter sales of $838 million were as I said, 8% above the $778 million in sales we generated in the third quarter of 2006.

Our organic growth was plus 3% in the quarter or up 1% in local currencies.

The diversity of our businesses and markets as a result of investments for growth in our international, commercial, and municipal markets and in technical products enable us to overcome the much head lined softness in the North American residential market.

Acquisitions added another 5% to our top line growth versus last year.

Third quarter sales in our water segment were up 6% versus last year but down 1% organically.

The anticipated impact from continued weak North American residential markets was almost fully offset by strong international, industrial, municipal, commercial, and agricultural growth.

And while we fell a little short of our water margin target for the third quarter because of the weak North American residential market, we did expand margins 170 basis points year-over-year.

Our technical products business grew 12% in the third quarter as our electrical business and international electronics businesses achieved double-digit growth.

While our North American electronics business was down year-over-year, sales were improving sequentially as we begin to lap the severe declines in the data come 2335 and telecom downturn a year ago, and trends are improving in orders and bookings.

Overall, for technical products, the 12% sales growth and the continued strong results from from our lean driven productivity efforts enabled us to expand third quarter operating margins an impressive 150 basis points on an adjusted basis.

As the slide shows, Pentair overall expanded margins 210 basis points, obviously both water and technical products contributed significantly towards this, and we continue to control corporate expenses in line with our expectations.

Looking at total company margins year-over-year, the positive impact from volume and price coupled with solid productivity and a nice contribution from acquisitions provided 530 basis points of margin growth.

This easily offset a negative 320 basis points impact from total inflation.

Another highlight of our strong performance was free cash flow which was $120 million for the third quarter.

Year-to-date then, we've generated $189 million of free cash flow which is an improvement of $96 million year-over-year despite the higher capital expenditures we have year-to-date in 2007.

Our year-to-date free cash flow re reflects a substantially lower use of cash for working capital and higher income compared to 2006.

So those are the Pentair level highlights for the third quarter.

Now let's turn to slide #3 and review our water business in more detail.

Overall, water grew sales $30 million to $562 million up 6% versus last year's sales.

As I mentioned earlier, organic sales were down 1%.

The composite of our total water sales is shown in the top left section of slide #3.

As you walk through that detail, let me give you some color on our sales in pump, pool and spa, filtration and international market.

North American pump sales were down 4% to solid growth in our industrial and municipal and commercial pumps did not offset the softness in the North American residential markets and the impact we saw in the quarter from mild weather.

Our (inaudible) joint venture continues on a positive trend.

The customer acceptance of our Penn tech motor pumps reached the penetration rate of close to 90% in the third quarter.

The actions of a new competitor will continue to be a drag as price pressures and high inventories impact this well pump niche.

Commercial and industrial pump sales have remained robust with growth in high single-digits while we also continue to have strong double-digit growth performance in our Fairbanks municipal pumps.

In fact, Fairbanks has the highest as a record backlog going into the fourth quarter.

Our North American pool and spa sales were down 5% compared with Q3 of last year.

The biggest year-over-year decline we expect in 2007.

As we stated last quarter, we saw stronger first half '07 performance than we originally anticipated in pool.

The third quarter was a difficult comparison as sales were still fairly strong in July and August last year.

So the sales decline was mostly in line with our expectations, and despite being negative was much better than the double-digit declines in new pool starts in key states such as Florida, Arizona and California and now even Texas.

We'll discuss our outlook for the fourth quarter in a few minutes but so far the early bi-programs that are so important in the fourth quarter in the pool business essentially in line with our expectations.

North American filtration sales were up 11% driven by the Porous Media acquisition.

Organic sales were down 1% as continued momentum of our commercial industrial market did not offset declines in residential.

We'll highlight the filtration business in more detail in a few slides, so we'll revisit this top again in a few minutes.

In water, internationally, we continue to see impressive growth.

Our European water business was up 47% year-over-year or up 10% after removing the impact from the young pump acquisition.

In Asia, we continue to drive strong double-digit growth.

In the third quarter, our Asian water sales were up 34% year-over-year.

One of the major strategic thrusts in Pentair water is to grow in nonresidential markets.

New product introductions have been accelerated to support these strategies.

A number of exciting filtration launches that I will outline later are supporting international and foodservice growth.

In pump, we've introduced a new variable speed in tell boost commercial boost repump 2748 for the HVAC business.

A high head fire pump system for high rise construction.

A rapid deployment phone profile pump system for emergency use, and a form factor compatible what's called a rabbit ear pump to attack the aftermarket which is actually an installed base of one of our competitors.

And in the Middle East, where we're growing very nicely, we introduced a new line of vertical and horizontal multi-stage pumps.

We haven't neglected residential new products either as we launched higher horsepower motors for well pumps and heavy duty master temp pool heater with best in class performance.

Further distinguishing Pentair's energy efficiency and environmental safety leadership position in pool.

So, our investments in new products are beginning to pay off.

Of note, on our website, we've attached a set of charts entitled water overview.

This deck provides detail on global water markets, issues and key growth drivers.

It also highlights Pentair's unique position in these markets and how we're approaching a number of these opportunities with new products and solutions.

Now back to the slide.

On the top right, you can see our year-over-year operating income walk for water which was up nicely.

Overall third quarter margins expanded 170 basis points removing the impact restructuring had on both periods.

We had a strong impact from growth which contributed a positive 210 basis points.

Productivity added 250 basis points more as our efforts to drive lean and reduce our variable and fixed cost structure yielded solid results.

In aggregate, growth and productivity more than offset a negative 290 basis points impact from total inflation and enabled us to achieve water margins of 11.3%.

While we fell short of our third quarter target of close to 12% margins, we overcame many of the challenges associated with the softer North American residential market.

Year-to-date, margins in our water business are 12.1%, up 60 basis points versus the three quarters of 2006 on an adjusted basis.

Before we transition our technical products, let's review the new restructuring actions we just took in the third quarter shown in the bottom right of the slide.

Given the deeper and more extended downturn in the residential markets, we moved quickly to take additional restructuring actions.

You can see the detail of the $10 million and how it was spread between pump, pool, filtration and our European water business.

Overall, we're closing one factory and consolidating three distribution centers.

The actions in water will reduce our head count by close to 350 people as we right size our operations to reflect the current market environment.

So in summary, we continue to make solid progress in our water business despite the headwinds associated with North American residential market.

We're working on the right things to move our margins higher while also investing for future growth.

Let's move to slide #4 now and review our technical products businesses.

Similar to water, we provide you with total business sales and operating income walk at the upper half of the chart.

Technical product results in the third quarter were outstanding as we grew sales 12% and expanded margins to 16.5% on an adjusted basis.

Let's review what enabled our businesses to have better than originally expected performance in the quarter.

As we look at our sales results, our world class electrical business grew 11% versus last year as we continue to gain share in a strong market.

North American electronics our sales were down 2% because of contraction and consolidation in the telecom market.

However, the markets have begun to improve and our electronic sales are up sequentially.

Technical products Europe was up 15% year-over-year and up midsingle-digits excluding favorable currency.

In Asia technical products grew another 83% as we continue to make solid progress growing in the region.

Looking at technical products margins, at the top right section of slide #4 suggests overall growth and productivity together contributed 550 basis points of margin expansion.

This easily offset the impact of a negative 400 basis points from total inflation.

Our lean driven productivity actions continue to provide solid results as we have excellent conversion from the 12% sales growth.

We did exit a U.K.

factory in the quarter, but that action was self-funding as the gain in the facility sale more than offset the cost of the restructuring.

So our reported margins were 30 basis points higher, the 16.5% adjusted margins are more accurate representation of the outstanding performance achieved in the group.

Noted on the chart is an action we're taking in the fourth quarter 2007.

We recently announced we would close our electronics factory located just outside Chicago.

We expect to take a pre-tax charge in the fourth quarter for this action.

This is reflected in our reported but not adjusted fourth quarter 2007 earnings per share guidance.

This action will improve our North American electronics cost structure as we continue to right size this business given continued challenges faced particularly in telecom.

So in sum, technical products delivered a strong top line and had great execution to deliver outstanding bottom line results in Q3.

This segment is well-positioned for the end of the year and 2008.

Let's move to slide #5 which shows our financial metrics.

In particular, I would like to highlight cash and return on invested capital.

As mentioned earlier, we generated $120 million of free cash flow in the third quarter and generated $189 million year-to-date.

We continue to make good progress in regard to working capital, but there is still a lot of opportunity to improve further, particularly in inventories.

If we take a look at the components return of invested capital to the right of the slide, you will see our fourth quarter trailing nonoperating profit after tax or NOPAT was $249 million.

Our average invested capital was $2.65 billion which gives us an after tax ROIC of 9.4%.

This is flat with the same metric a year ago but reverses the trend of being down year-over-year and is up 90 basis points versus the second quarter of this year.

As we previously stated, one of our key objectives is to increase our after tax ROIC.

The third quarter demonstrates we're moving in the right direction.

We're focused on driving higher net operating income after tax by focusing on operation and broadening the impact of our demonstrated lean focus which helps us better serve our customers, drive profitability, and lower our investments.

Our ending working capital was $410 million, a reduction of $51 million versus the second quarter of '07.

And our five-quarter moving average working capital is $429 million which is 12.9% of four quarters trailing sales.

Return of equity was 12.4%, and our total debt was just over $1.1 billion for a debt to total capital ratio of 38%.

As a reminder, the non-GAAP to GAAP reconciliation of these calculations and numbers are included in the appendix to this presentation.

Similar to the past two quarters we would like to take a minute to provide additional color in one of our businesses, so please turn to slide #6.

Today we highlight our global filtration business which has annual sales of approximately $700 million.

The top left section of the chart provides detail around the $45 billion global filtration market.

As we highlight on the chart, Pentair's filtration business can participate in a little over half of that market.

The global filtration market is very well balanced geographically with the market equally split between the Americas, Europe and the Middle East and Asia Pacific.

Additionally, we estimate the industrial market segment represents the largest filtration market about 45%, municipal filtration would be next with 35% in residential and commercial of both around 10% each.

So this is a big diverse globally balanced market.

The top right section shows how our filtration sales are split between vertical markets and geography.

Our largest segment is residential and consumer products was about 45% of total sales, 10 points is international, and 35 points is North America split relatively evenly between replacement or aftermarket sales and residential new construction.

The remaining segmentation is approximately 30% commercial and 25% industrial and municipal.

We continue to improve the mix of our filtration business so you can see we note that five years ago the business was much more skewed to residential and consumer which at the time represented over 75% of our filtration sales.

Currently filtration represents our most international water business.

About 60% of our sales are in the U.S., 20% in Europe and the Middle East, and our sales in Asia are growing rapidly and today represent 11% of our mix in filtration.

The bottom half of the chart provides you with prospective on our key growth initiatives.

We shifted much of our focus over the last several years from our residential (inaudible) to building our position globally in other vertical markets.

In industrial, we're growing over 10% organically this year.

We're strengthening our distribution and leveraging force media into global markets.

In commercial, we have some exciting reference installations in China having moved beyond products to providing full solutions including full filtration systems for offices, schools and factories.

In global diesel markets, we are leveraging our code line market position and knowledge to drive quotations in our new RO pumps and pre-filtration innovations from Porous Media.

Here again we aren't ignoring our residential segment.

In fact, we've sustained our investment to build the pro channel dealers into water experts.

In all, we view filtration as our most exciting global opportunity, and we're building an attractive position.

Turning now to slide #7, let me highlight one of our key growth initiatives in filtration, that being foodservice.

Today our foodservice business represents about $100 million in annual sales.

We've grown a double-digit rate the past few years as our investment in new products, additional capabilities and alliances has proven successful.

You can see we have a number of key customer relationships, and we work with these customers to provide solutions for both local and global needs.

In fact, we have 15 global customers that are supported consistently around the world.

For Starbucks as an example, our ever pure product is currently being installed in Asia as they recognize the consistency in the taste of water dramatically impacts the quality of the cup of coffee and improves the up time of the espresso machines.

As the picture on the page highlights, our Everpure system provides solutions for the factory, that is the restaurant itself.

Our systems enable consistency of taste, improved efficiency and lower maintenance costs in regard to washing machines and ice making and certainly provides a more environmentally sensitive solution for bottled water for purity.

We have a number of current applications that help provide this total water management solution to the kitchen factory..

Our most popular application is the Everpure filtration system that many restaurants have adopted that not only satisfy the requirements for consistency but increasingly to also satisfy their desire to eliminate bottled water in reaction to environmental concerns and customer requests.

Even with our progress in foodservice with our current applications, we believe there remain a tremendous opportunity to expand.

Based on the insights we have into this business, we recently launched a number of new exciting products and services including our smart work system that helps restaurant (inaudible) manage their water chemistry and ultra filtration systems in tandem with existing Everpure cartridge systems can give absolute pure water for use in restaurants.

These and other products have our channel partners and distributors quite excited.

We've placed the material these dealers received on all of these new products on our investor website for your perusal.

So in summary, we have a large and growing filtration business with a diverse portfolio.

We have focused growth initiatives to delivering solid results and will provide even better results in the fourth quarter of this year and beyond.

Before I turn it over to John, let me update you on the progress we continue to make with water margins.

So please turn to slide #8.

Earlier this year, we set a target to achieve 12.5% margins in water for the year.

We revised our full year 2007 estimate to reflect our view that we will now achieve roughly 12% margin.

Let's discuss what's changed.

We will remain on track with respect to the productivity and cost reduction actions we outlined and are encouraged by the progress.

Unfortunately, we no longer see the same level of overall growth we expected earlier in the year as the North American residential markets are now below the low end of our expected range.

This impacts our margin to the tune of about 50 basis points.

Therefore, while we still expect 200 basis points of growth and productivity year-over-year, we no longer expect 250 basis points which has been our view.

As we already mentioned, we did take additional actionBs in the quarter related to capacity rationalization and other items related to our cost structure.

But those benefits will not read out until 2008 and beyond.

So while we're disappointed that we will not hit our target of 12.5%, we're encouraged by the progress and execution within each of our water businesses.

These margin targets and estimates were never the end goal of course, so nothing has changed with regard to our view that water margins can and will continue to increase as we move into 2008 and beyond.

I am now going to turn it over to John who will provide some additional color on the current quarter's earnings per share results and discuss guidance for the remainder of '07 and introduce our current view of '08.

John.

Thanks, Randy.

Let's start by reviewing slide #9.

This chart is design to do help reconcile the reported to adjusted earnings in the quarter as well as provide additional color related to full year nonrecurring items.

If you start at the top left of the chart, you can see our reported EPS for the third quarter was $0.58.

This compares very favorably to the $0.33 we reported in the third quarter of 2006 which is noted in the bottom section of the chart.

Our 2007 adjusted EPS is found in the middle section of the chart.

We delivered $0.53 of earnings per share in the third quarter when we remove the $0.11 benefit from nonrecurring tax items and add back the negative impact of $0.06 related to restructuring.

The $0.53 is up 29% versus 2006 adjusted EPS of $0.41.

Let me provide additional color on the third quarter 2007 tax adjustment.

The net tax benefit relate to a change in the German corporate tax rate.

The German government recently enacted a new corporate tax rate that will go into effect in 2008 dropping the overall German tax rate to 30% from 38%.

This provides an ongoing benefit starting next year.

This quarter's nonrecurring item relate to favorable adjustment to our deferred tax account associated with this rate change and therefore is nonrecurring.

So year-to-date we generated $1.62 of EPS on a reported basis and $1.57 of EPS on an adjusted basis.

This detail is found in the next column.

Moving over to our guidance column, we expect our fourth quarter reported EPS will be $0.42 to $0.47.

As the table shows, we do not anticipate any new tax benefits in the period.

However, our reported numbers will include a negative $0.03 to $0.04 impact from the new restructuring actions that Randy mentioned.

By removing the impact of restructuring, we get to our adjusted earnings per share guidance of $0.46 to $0.50 up around 50% versus adjusted fourth quarter 2006.

Finally, the far right column in the chart shows our view for the full year on a reported and adjusted basis.

Rather than go through the full year guidance now, I am going to wait a few minutes so we can summarize a more complete view of full year 2007 sales, margins, and earnings per share.

We hope this chart provides you with the most lucid view of our third quarter results and our guidance for the remainder of the year.

Let's move to chart 10 and take a closer look at our expectations for the fourth quarter.

Starting with sales, overall, we expect 9% growth in the fourth quarter as we continue to make nice progress with our sales initiatives.

Approximately 5% of this growth will be organic, and the rest is associated with acquisitions.

Our water business was up approximately 3% organic in the first half of the year.

Q3 had two unique elements that impacted the organic growth rate for water.

The first element was the difficult pool year-over-year comparisons as Randy mentioned.

Therefore comparisons in pool for the coming quarter are more consistent with prior quarters this year or or about flat organically versus the 5% decline that we saw in Q3.

The other impact to Q3 2007 was a mild weather associated with fewer hurricanes that can drive pump retail sales in those regions.

Therefore, the industry did not see the sales bump we usually do for this weather pattern.

We expect Q4 for pump will swing to favorable organic growth as comparisons year-over-year due to the 2006 residential downturn begin to get easier and while we remain cautious with regard to the North American new housing market, the rest of our key water segments remain very strong.

As for technical products, we expect industrial, commercial, and international markets will remain steady in the fourth quarter.

Additionally, we begin to lapse from comparisons associated with the electronics markets and no longer have the difficult comparisons associated with lost revenue in those segments.

In water, we expect about 10% sales growth with 5 points coming organically.

In technical products, we expect approximately 8% sales growth as our electrical business maintained solid momentum, our international growth remained strong, and our electronics market continue their modestly accelerating improvements.

We expect adjusted operating income to be between $88 million and $95 million excluding the impact of restructuring.

This should produce operating margins of between 11 and 11.5%, up roughly 250 to 300 basis points versus last year on an adjusted basis.

We expect margin to benefit from improving sales, additional productivity driven by our lean initiatives, benefits from our growing pipeline of sourcing actions, our move to emerging regions, and a continual focus on reducing G&A.

We expect to have a slightly better tax rate of about 35% as we begin to realize the benefits of our European water business move to Switzerland in the fourth quarter.

Our moves to China also drive the benefit in our tax rate as we enjoy a mid20s tax rate on value-add production generated in that region.

Net interest expense is expected to be approximately $17.5 million to $18 million as we begin to pay down debt from the cash we have generated.

Finally, we expect fourth quarter free cash flow to be between $40 million and $60 million as our strong focus on our consistent generation of cash flow has paid off nicely.

So as we previously mentioned, we expect fourth quarter EPS between $0.42 and $0.47 on a reported basis and between $0.46 to $0.50 on an adjusted basis.

This is up about 50% versus adjusted fourth quarter 2006 EPS.

With a strong finish to 2007, let's quickly review how this translate to full year 2007 guidance.

Please turn to the next slide, #11.

Given our performance in the third quarter in our view of the fourth quarter, we are updating full year guidance to $2.03 to $2.07 on an adjusted basis which is shown on this chart.

This represents an 18 to 20% increase over full year 2006 adjusted earnings per share.

For the full year, we expect sales to be up in the range of 6 to 8% with between 3 to 5% organic growth.

We expect total company full year operating income of approximately $385 million on an adjusted basis.

This translates to full year operating margins of approximately 11.5%, up 240 basis points year-over-year.

As Randy highlighted earlier, we currently expect water margins to be approximately 12%, up over 140 basis points versus last year's adjusted margins, and we estimate technical products margins to be approximately 14.5%.

We are raising our full year free cash flow to $230 million to $250 million which will exceed our 100% of net income target.

We expect year-end debt to be about $1.1 billion and the debt to total capital ratio of approximately 37% at year end.

In addition we'll have purchased about $40 million of stock in 2007.

This represents approximately 1.2 million shares or reduction of about 1%.

For the year, we'll have also paid $60 million to share owners in dividends, a metric we remain proud of and committed to.

Let's transition to discuss our initial view and guidance for 2008.

Turning to slide #12, this chart provides a foundation for how we review our markets as we look ahead to 2008.

The chart also details mix of total Pentair revenues associated with these markets.

I won't walk through all the detail, but I will highlight some key points.

Looking at the top section, we expect North American new housing to remain soft but the market decline is expected to be less of a head wind than it was in 2007.

While it is difficult to predict the recovery North American new housing construction, we think it is best to remain cautious and expect that the market will be downgraded in 15%.

As the chart shows, this market represents about 17% of our total company revenue.

Most of our other markets maintain a higher than GDP growth, but perhaps with a little slower expansion than 2007.

We do see North American electronics markets improving and becoming positive in 2008 which will be a nice tail wind and finally, we still see solid international growth especially in Asia.

So we believe our initial market view is pragmatic with North America new housing declining in a slower pace than 2007 while most of our other markets moderate slightly with plenty of opportunity continue to offer new products and services as well as take share.

We believe it is prudent to view market growth conservatively and would prefer to have any incremental market strength act as an upsize to our planning model.

The bottom half of this chart highlights the momentum associated with the solid productivity we're carrying into 2008.

We continue to make tremendous progress with our lean initiatives and other productivity actions.

We now have over 100 full time lean leaders in our businesses.

This represents over 10 million of investment to accelerate productivity.

The new actions we're taking in the third and fourth quarter of 2007 position us for additional savings in 2008.

There is also a tremendous opportunity for Pentair as we work on changing our sourcing structure to more emerging region solutions and work to improve our overall G&A structure and as we'll highlight on the next slide, we will also benefit from a lower tax rate, share count, and interest expense in 2008.

That's the framework for our view of the markets and our position as we enter next year.

Now let's discuss our initial guidance for the year to come.

Turning to slide #13, you can see we expect total sales growth of 4 to 5%.

Given our view of the markets, we believe we have the right level of growth initiatives to produce these results.

Both water and technical products should be up midsingle-digits as we benefit from good industrial, commercial, municipal, and international markets and water we'll face less head wind from the North American residential downturn.

We expect increase both our operating income and margins and our forecast and overall margins of approximately 12%, up 50 basis points for Pentair.

In water, we expect at least 13% margins, up 100 basis points for 2007.

And in technical products we expect 15% margins, up 50 basis points for 2007.

In addition, we are currently planning corporate costs to be in the range of $50 million to $55 million with a lot of the key elements there yet to be known.

We expect the combination of margin expansion in conjunction with the lower tax rate around 34 to 34.5%, modestly fewer shares based on our 2007 buyback and lower interest expense should produce earnings per share of $2.25 to $2.40 for the full year.

This represents EPS growth of about 10 to 20% versus adjusted 2007 earnings per share.

You'll see on the bottom left section of the chart we provided year-over-year EPS walk.

We expect our 4 to 5% sales growth to deliver about $0.40 of additional EPS versus 2007.

New productivity actions coupled with 2007 carry over actions should more than offset total inflation and in aggregate provide $0.15 of additional EPS, and we continue to invest in new products and growth initiatives but know we may also have unexpected headwinds in 2008.

Therefore we have a balance approach to what contingency we may need to meet our targets.

Based on our initial view of the markets combined with the visibility we have with our productivity actions, we feel comfortable providing initial guidance for 2008 of $2.25 to $2.40.

Finally, we remain committed to our annual goal of generating cash in excess of net income.

In summary, we expect 2007 to be a strong EPS growth year with the solid close in Q4.

We will carry that momentum into 2008.

I would also like to mention that we continue to make progress in our financial discipline, and to that extent I'm proud to announce that our 10-Q will be filed today and should be available for your reading pleasure shortly.

A lot of people including our outside auditors and our financial team worked hard to make this happen, and I believe it is another step forward in our efforts to be as transparent as possible with information that helps you understand more about your company.

We will follow this process every quarter except for year end where we will obviously need extra time to get out the K.

That concludes our review.

Lindsey, we'll now open it up to questions.

(OPERATOR INSTRUCTIONS)

Your first question comes from[ Mike Snieder] with [Robert W.

Baird].

Good morning, guys.

Good morning, Mike.

Maybe first we can address the pools market.

It looks like you've taken a pretty conservative view.

I am curious in the aftermarket, that you assumed, I guess, going forward that you see no change in demand there.

What have you witnessed, I guess, through the distribution channel?

Has there in fact been any effort by the pool owner to either shut down pools or reduce their spending and I guess give us your thoughts as you head into '08 on that question as well.

Sure.

Let me turn with a (inaudible) ground for everybody who may not be (inaudible) up on it as you.

The third quarter again we were down 5% in pool which was higher than a bigger decline than we saw in the first two quarters.

The biggest reason if you recall, we used to have a thing what we called the false docking program and then actually July sales last year and the first part of August were pretty good before a very precipitous fall, so sales were about where we thought they would be year-over-year.

We didn't run a false docking program obviously this year.

We don't see any real change in the after market.

We sell into distribution.

It is the same product.

It is the same price wherever the application gets.

But as you know, we're pretty imminent with the pool installers because we have such a good salesforce.

We're not seeing anyone really shutting down pools.

As a matter of fact, we think one of the things that helped us gain share this year and we think is going to be an even bigger share gain next year is the fact that with energy costs the way they are, and with the increasing environmental sensitivity, a number of our products and our Intel flow pump, Intel color salt (inaudible) and the master temp heater, which is the most efficient one in the market, are all getting a lot of play, and as we talked about before, California is -- has been rebating, the utilities have been rebating our pump and getting installation, so we're sold out that far and we're raising capacity, and we expect we'll keep selling that out for at least another year, and right now actually California is looking at passing a law requiring multi-speed pumps in pool applications, so we expect that's going to help as well.

We haven't seen any indication that people are shutting down their pools.

But we are seeing, as I mentioned on the call, and as some others have reported, Texas which had been a pool market that was sort of defying gravity compared to the other markets actually was down in Dallas and Houston in double-digits in the third quarter, and probably not all because of housing because the weather there wasn't very good during the summer.

That probably had an impact as as well, but as we look at the fourth quarter as I mentioned the early buys, going about what we thought, and what we thought would be a little bit better than last year, so right now we feel we've got a good handle on what's going on in the pool business.

Mike, as you know, we probably just so everybody knows, we have most of those orders in hand, so we have pretty good visibility in what that market looks like right now.

Okay.

And then just switching quickly to the residential or the filtration portion of water, it was down 1%, and I presume some of the industrial and commercial brands were up nicely.

Is it a case that the softener business, are you suffering I guess weaker residential demand for softeners?

I always assumed that was mainly a replacement market or is there a market share shift that is occurring?

Maybe you can just address why residential seems to be down more than I would have expected.

Mike, it is interesting what you learn in the reality of a real market.

The convention -- the received wisdom was that it was softeners were generally a replacement type market, but clearly softeners are being impacted by the downturn in-housing, and so it is a little bit -- we're seeing more of the reality of it, but it is exactly there, and we still have lost some of the OEM position.

We still have some of the (inaudible) that still, some of the OEM sales that we had to [inaudible] and to (inaudible) that we lost in the fourth quarter last year.

We still have that impacted in the third quarter, I didn't mention it this time because we mention add gnaws, but basically I would say what we saw in the third quarter as I mentioned, we're now looking at the North American residential market as sort of being below that range which we had set a year ago, and it is really affecting us in a couple areas, pump and a little bit in water treatment in the water softener area.

Okay.

Thanks again, and thanks for all the clarity again this quarter.

Thanks, Mike.

Your next question comes from [Kirk Woodworth] with JPMorgan.

Hi.

Good afternoon.

Hi, Kirk.

What if we could drill down a little bit more on the margin performance and water and kind of how you see it evolving, I mean.

You know if you look at your 2Q performance, your productivity gains that you outlined at that time were about a million, and this quarter you outlined $14 million of productivity improvement, so pretty dramatic step function change in productivity, and I guess I am wondering what is the real driver of that and given that momentum and looking out to 2008, your guidance implies margins up roughly 120 basis points year-on-year.

It seems like your momentum suggests that that there would be upside to that.

So maybe just kind of talk about the puts and takes going forward of that.

Sure.

You're right.

Obviously the momentum is gaining steam, and it is worth gaining steam is primarily on the sourcing to emerging regions, and we're starting to and we had a pretty good head wind in the first part of the year on inflation and would have been able to work a lot of that down now as we take a look at the second half of the year and into 2008.

If you were to take and take this run rate going forward, absent the excess capacity issue that is we have in North America that we think we have taken a pretty good practice step in Q3 with the restructuring actions, so one element you get to a better number than what we're suggesting next year, but we have a lot of organic growth opportunities.

We have a lot of international growth opportunities, and we want to continue to fund them because we believe the water space long-term is absolutely a growth area, and so we've tempered a little bit.

We put some into the plan.

We obviously holding back the incremental piece into what we call the contingency, but I think where we're guiding people right now is realistic given where the North American market is, and it could be better if we continue to make head wind.

Okay.

And then --

Does that answer your question, Kirk?

Yes.

It does.

I mean it just seems like, you know, you outlined $0.15 of productivity and inflation benefits in '08 for the company which looks like it's about 25 million pre-tax, and then I know you met your 35 million target this year with seemingly most of the leverage occurring in the back half of the year.

So, I just want to get a sense for, you know, how you're thinking about that, and then, you know, the other question I have kind of relates to the inflation part of the business on water.

Yes, it seems like, you know, again looking at 2Q, you're about flat price versus cost.

In to this quarter, if you adjust for, you know, that 10 million of acquisition benefits and the doc you provided looks like you were short on price versus cost.

I mean can you give us a sense for, you know, -- are you really that far behind you know?

Do you think you need (inaudible) next year to get back to more neutral on that.

Just give us a sense for --

Price held in Q3.

Yes.

On a price issue, if you read that volume price the majority of the drop was in volume, and as I mentioned in my comments, the retail piece of pump especially in the quarter was unusually soft as none of the weather patterns, the unexpected weather, didn't happen.

I mean it's fortunate for the people living in that area, but we usually see more hurricanes and more wet weather in Q3 than we did and that took -- that was the unanticipated drop in volume in the quarter.

Okay, great.

Thank you.

Your next question comes from [Cliff Ransom] with [Ransom Research].

Good afternoon, gents.

Thank you for a nice reversal in the quarter.

Can we talk a little bit about how you're thinking about growth initiatives?

Has it changed in the last couple of years?

Maybe kind of when did you stop beating your wife question is do you like the way you made these kinds of investments say two or three years ago versus what you're doing this year and next year?

Sure.

The change really started in earnest about 18 months ago.

I may have been more articulate today, we really did, about 18 months ago, say we wanted to grow these other markets.

We learned as we grew in the water.

We learned that the opportunities, particularly outside North America were huge, and we need to do invest in global, and you recall we began to invest pretty aggressively to build our global team, and they're beginning to gain traction now, and then we aligned global teams in support of our teams in Asia and our teams in Europe around some very exciting initiatives.

One is taking our position in reverse osmosis and [ indiscernible ] where we're really just a vessel provider, and we've spent a lot of time talking to the buyers and we developed a series of products that we don't want to build these big systems, the big R O systems but there is a lot more products we can provide so we launched for instance a [ BRACish water R O pump which is not used in (inaudible) but brakish water.

treat R O which is runs so about 300 psi.

We already got $2 million in orders on this product and just launch it this year.

We have a higher pressure (inaudible) product under production now.

So, we're really taking our product capability and applying it with a better understanding of vertical markets to those opportunities, what I used to call the white spaces in water.

We have six global initiatives we're driving and then in each of the businesses they have individual ones.

I mentioned the one in China that I'm very excited about.

We entered China and we entered Asia with the products we had like every other company.

That's always been a product focus.

What the China team did was they said there is no established distribution, there is no established installer base, so we need to step into that role and find partners and actually provide systems, so we're providing and we went out and said kind of like how we grew tech products ten years ago, let's go build ten reference sites, and we did that in offices and factories and in hospitals in colleges where we actually have installed medium-sized reverse osmosis full filtration systems for those facilities and we got those installed and now those they're be references upon which we grow, so a lot more focus on what I would call vertical markets which started about 18 months ago, and now we've aligned our now products in support of vertical products, and we continue to invest this proportionately in markets outside north North America.

In fact, we didn't mention it, but the better we do in Asia, the more pressure it puts on our margin needs because we're not making the money in Asia that we make in North America or even in Europe, and that's okay as long as we keep growing it and profitability comes shortly after.

That may have been too verboseful.

That's a great answer.

The last thing I will ask you about in a couple of sort of side bar presentations, you talked about commercial opportunities, particularly in swimming pools.

Can you talk a little bit about the size of that market and/or the retrofit opportunities?

Yes.

Our focus in pools, as again to broaden the question a little bit for everyone's benefit, our focus has really been more residential.

It is more North America, but we think it is a billion dollars opportunity more or less off the top of my head, and on the commercial side, and outside North America most pools are commercial, and what's interesting is we have the technology in our filtration business and our pump business to bring more cost effective solutions, you know.

For example, we have automated controls that can be remotely monitored, and we work on that with companies like (inaudible) lab that can remotely monitor these water body that is essentially they manage for hotels and for apartment complexes.

And by taking our variable speed pump technology, taking some of the breakthroughs we've had in higher efficiency filtration together with the saltless removing the chemicals, we've been able to save, I think this project you're referencing is the one in Shanghai Hotel where we're saving about 85% of the operating costs, and that's a big deal to that hotel, the J.W.

Marriott, and so we're taking that and again sort of a reference facility, and we're taking that and rolling it out as an initiative, so we think that commercial and actually commercial pool is one of our global initiatives, and it is up over 20% year-over-year.

Is that a retrofit business primarily or is is there enough new nonresidential commercial construction?

It is really both.

There is a lot of nonresidential commercial construction outside North America.

If you look at Asia, it is they all go.

Great.

Thanks.

And John just whispered the Middle East.

The Middle East is also very big.

You can say it louder.

Middle East.

Got it.

Thank you, guys.

Thanks Cliff.

Your next question comes from [John Quealy] with Canaccord Adams.

Hi.

Good morning.

Good quarter here.

On the '08 walk, the $0.15 of net productivity inflation, I am sorry, can we revisit this in break apart what we're looking for in the productivity side and inflation side given what you've just gone through on inflation this quarter?

We've gauged inflation to be around 3%ish.

That would include labor and materials net.

And when we take a look at the 15%, the biggest component of that would be we would expect to see at least a 1% net sourcing benefit next year.

We are getting that type of benefit in Q3 and Q4.

We did not experience that in Q1 and Q2 of this year, so our inflation basically offset our material sourcing benefits in the first half of this year.

We're running about a 1% net benefit, and we expect to be 1% next year.

I would think in the economy we're looking at that would be a disappointing performance, and I think Mike Schrock would agree with that as our Chief Operating Officer.

I think we have enough things in the pipeline, and we're coming from enough of a North American base that we should pick up emerging regions and be able to beat that significantly.

My last one, on the free cash flow for '08, can we talk about the priorities for the cash dividend and you have spending in here as well, and especially if we talk about acquisitions, I know you talked about (inaudible) and how you don't want to own heavy plant so to speak, but is there a desire to get heavier steel in the ground with the Pentair name on it than what you have in terms of a service offerings or build to operate offering?

Not interested in BOP or BOT or any of the big stuff.

That's competing with some of my customers, and we don't have the core competencies to compete with GE or Siemens or Mitsubishi at that level but I am happy to sell them pumps and code line and this exciting pre-filtration product we're developing (inaudible).

When I talk about the system solutions, I am talking about something that might be skid mounted, size of the table I am sitting at which could be used in a five-story building or a small factory that was just using it for facility water, so or a hotel, and there aren't that many established providers of that kind of equipment in a place like China or India, so those are the places we're doing that, and I think it has gotten a lot of legs.

To answer your cash question, obviously we continue to use the cash for dividends.

We right now think debt is a pretty good place to put apply the cash.

We're focused on driving ROIC, and you know paying down debt is going to drive the highest payback of ROIC.

The acquisition pipeline right now would be more bolt-on acquisitions to the ones we're looking at, and we're like every other company.

We're waiting for the devaluations to take sponsor premium off of them, and we'll be active with the right ones at the right time.

Thank you.

Your next question comes from [Jenn Locust] with [Janney Montgomery Scott].

Thanks.

Good afternoon, guys.

Hey, Jenn..

Technical products since we haven't had a chance to talk about that.

They did pretty good.

Continues to be a very good story.

Could you talk two specific questions.

One, with regards to telecom, what you're seeing North America and internationally as you alluded to ongoing head winds there, but from a new product standpoint, one of the areas of the Hoffman in particular you talked about a number of new verticals that they've been focused on whether it be security, medical, defense, et cetera, could you give us an update of how progress is coming along in those new vertical.

The new verticals, basically the Hoffman grew in every segment they were in as we calculated, and we think we gained share.

They were over 10% growth.

And we don't think the market grew that much.

And in particular they've entered the networking market in North America under the Hoffman brand name.

That's for the in-facility buildout of computer and telecommunications.

When we talk about telecom, we're talking about the stuff we're selling to Lucent and Alcatel or Motorola and the like.

So when we talk about networking, we're talking about that which goes through distribution or through a gray bar or several other distributors that specialize in this area, and that really has taken off.

The growth on that has been very good.

Commercial growth has continued to be good even though commercial construction is down somewhat, we have deepened our product offering and those are helping to drive your growth, and interestingly, energy and water resources is our two end markets that have specific focuses, so we have really strong growth in noncorrosive which is basically stainless steel and non-steel, in other words plastics or other resins have been really, really strong growers for us, and that's driven by energy in chemicals, and actually water uses the same products as well.

Those have been the strong segments, and I don't think that will change.

I think those segments will stay strong.

With regards to --

In fact, productivity right now they're running at 100% capacity in stainless steel right now, and productivity would be even better, well, once their lean will kick in and they'll get productivity up.

With regards to telecom, any additional color you can provide there?

Well, I think many of you had seen that number of telecom companies announced -- pre announced the second half, so the second half wasn't as strong for them as we might have thought it was six months ago.

Nevertheless we made progress because of the other segments.

We are making progress in security and medical, and importantly what we call our standard business which generally goes into test and measurement and other specialized electronics areas.

That's done pretty well globally.

In fact, that's one of reasons that Europe did very well in the third quarter.

When we made our assessment and decided it was time for us, we had three factories, one in Rhode Island, one in Illinois and one in California and North in North America.

A lot of telecom activity we're doing, we work in North America but it is getting made in Brazil or Poland or China, and we just said it was time to bite the bullet because you know with recent announcements, there is no way we really need the capacity.

We needed to do take some capacity out.

That's why we decided to take that facility out, and that facility was more skewed towards the build to print telecom business than any other facility.

Okay.

Finally, with regard to margins and technical products, historically there has been a fairly wide gap between North America and Europe.

Clearly you're taking from actions here to address that longer term, but in terms of the quarter, the normal delta or are you making progress in Europe?

You know, first of all, there is nothing abnormal in the quarter, Jim.

I mean the tech products margins were strong because when you grow 11% electrical, electrical is our superior Hoffman brand, right, so there is a skewed mix to that profitability.

If you take a look at electronics globally, we probably have the lowest margin in North America.

We have a decent solid margin in Asia, but that's supported a little bit from our engineering in Germany, and Germany is mid-single-digits, and remains steady there, so it is really about electronics getting better and putting more growth around that capacity, and electrical continuing to do well and continuing to expand their margins.

Okay.

Fair enough.

Thanks.

Thank you.

Your final question comes from [Francesca McCann] with [Stanford Financial].

Hi there.

Thank you also for all the detail this quarter.

It definitely is helpful.

A couple questions internationally looking at the growth potential in the Middle East and growth potential in Asia, but more importantly, what -- how large or what percent of the business would you feel comfortable growing those businesses to be?

Well, Asia is growing at 34%, kind of standard, and I would like to grow that faster.

I think we're only limited by the amount of resources, capable resources we get in the ground, and the effectiveness of the support we can give them from the centers, the business centers, whether that be Fairbanks Morris and municipal pump arena or filtration or ever pure.

Our ever pure model globally is really our model for how we want to work globally.

I mentioned we have 15 customers, that we really are effectively managing, and the teams can provide exactly the same service anywhere in the world, and it is working really, really well.

So I don't know if that addresses your question exactly, but I am continuing to put resources against those, and even with the problems we had in water, we didn't let up on those investments.

That's why I am confident we're beginning to see results and we'll see more results.

I don't think there is a target percentage Francesca.

I think we want to continue to grow India and China and all of our emerging region opportunities, but we also wish we were continuing to grow North America at a faster rate, too, and it will come back when the residential market rebounds here, but we don't have a target number, say 50/50 or 60/40 split for the total water segment.

Okay.

That was kind kind of more along the lines of my question.

Then just a quick question, I think you detailed out a little bit the 290, I believe, basis points margin improvement from productivity.

Can you expand on that?

290 references.

I actually thought you said 250.

But on the first slide, it looks like 290 basis points.

Are you relating to the current quarter?

Yes, current quarter.

That's on a reported basis.

The 210 Just productivity of 290.

Oh, the 290.

Sourcing, as I said, was slightly better than what we saw in Q2 and Q3 on the productivity side, and we are on the lean side seeing the benefits of having taken standard work and being able to right size some of the direct labor and indirect labor even before the further reductions in people in the quarter.

Very low cost productivity is good.

We also, if you take a look at kind of where the model works out, you also get your volume leverage in that productivity bucket which is technical products had a big piece of their volume leverage drove productivity in the quarter over the fixed cost infrastructure.

Okay.

That's helpful.

We said this all year Francesca, the comparisons in Q1 and Q2 were difficult and they get easier in Q3 and Q4 because the markets last year in North American residential fell off later in the year.

So we're now seeing the benefits of having taken out the costs, and we're seeing the benefits of the productivity actions that we had been working on all this year.

Okay.

That's helpful.

Thank you very much.

Thank you.

Talk to you later.

Thank

Your next question is from [Dan Wang] with Lehman Brothers.

Good morning.

First question was I know you announced some plant rationalization efforts both from the water and technical product side.

Do you happen to know the capacity utilization rates currently in those different groups and what the rationalization might take you?

I mean, Dan, I would say, you know, you can do that multiple different ways because you have your bottlenecking, and it is more effective on a factory by factory basis.

But when Mike Schrock and I take a look at where we are in North American water, I would say right now we're running about 75 to 80% is what we would say capacity, and the dilemma is for us as we continue to build steam on our lean initiative, we continue to generate more capacity.

Right now in the North American water segments we're not throwing significantly more volume on those residential-base factories.

That's what we needed to do, step up and reduce that capacity.

In areas like Fairbanks where we have municipal in a strong position there, we're running about 90% capacity and continue to use lean as a way to be able to bring in the growth -- the future growth that we expect to have there based on the backlog.

It really is a factory by factory and a business by business decision, but we're more residentially exposed right now and the fair guess would be around 75% capacity.

Right.

Right.

Okay.

Obviously the slowdown in residential, I guess, expecting that to, I guess, recovery on that is still a little bit of a question mark, but along with these moves and the lean efforts, that could effectively position yourself to have added capacity when the recovery finally happens.

Dan, the way I think about it is, right now I am particularly pleased to see how the productivity is reading out.

I knew it was coming, didn't read out enough if the first half as John said because of the difficult comparison, but it read out in the third quarter, and the residential markets can't proven out the way we thought it would.

We had a band.

It is now below that band, and we're saying, okay, it is going to go a little longer.

I am less concerned about the uncertainty around it because I think we have it.

I think we have it properly gauged, and now we got productivity.

As John said this in his prepared script, we're putting that on the upside, and driving other segments and driving productivity to keep the momentum going.

So that's how I view it.

Okay.

And finally, question second question is I think you talked about some of these systems and solutions that you're providing such as the complete package for the reverse osmosis system.

Are you sort of shifting more to providing kind of a full package of systems?

I think historically strategy was focused more on being a component supplier.

I know laws have been involved, such as fire protection pump systems providing more of a subassembly, but are you -- am I sensing more of a shift towards providing a full --

There is a shift.

The way I characterize it is this: our strategy in how we built the pump business for the first excuse me not the pump business but all of water was really a North American centric with a European flavor, and it was where we had established distribution, and we were a product company and we made if you will pumps and made filter cartridges and the like.

As we grew in new markets where there isn't established distribution and aren't established service contractors or installation contractors, and as we build more of a vertical market thinking, we're not saying we want to be systems, we want to say we want to be the filtration supplier to the commercial infrastructure being built in China, what's that opportunity, so they come back and say we can bundle our own products and do this to it is really more of a market back driven change in strategy, and it is really one that's informed by what we're learning and how to grow in the global markets.

Got it.

Great.

Thank you very much.

Lindsey, do we have any more questions in the queue.

You have one more question from Cliff Ransom.

We'll going to take that question and wrap up.

Thanks, guys.

The one area that I didn't drill down in last week at the west tech show was (inaudible).

You gave us a better number.

I think the last penetration number in distribution was 85%.

You moved it to 90.

You didn't say anything about fault rate or error rates, so the first question is have they changed in either direction and number two, how long do you think you have to be in the marketplace before you really gain the hearts and minds of the well driller industry with your joint venture with ITT?

Let me take it in in two parts.

First of all, our error rate is very, very low.

I mean if you take a look at what we have installed in the ground, we're running well below 1%, well below.

Nice pun.

If you take the second piece of your question, we continue to make progress.

However, it is a difficult pricing environment.

You know, the extra competitor we have is aggressive in that front.

We're still excess inventory in the channel, and that has to work itself out, and we continue to work within those dynamics and protect our position in that market.

It is going to take awhile, and we've been very candid and open with that.

What I was really getting at was so much of that market is driven by reputation for quality and integrity and it is great you have a very low error rate.

What is your thinking in terms of your competitive intelligence on how long you have to be in that business before there is really accents, of you know, brand preference?

I may be over stating the case.

If you want to contradict me it won't hurt my feelings.

First of all, we've been in the market a long time, and the brands are F E Myers, and the brands are stay right, and they have a following, too.

It is not like we're a newcomer.

We happen to be using a new motor.

We have established relationships, and we have established a view in the market.

I think our salesforce, I just gave them all a little bonus because I just think the way they're handling this with integrity, with passion, and with quality is reinforcing what we stand for, so I feel really good about where our team is.

I feel really good about where our team is.

Great.

Thanks very much.

Sorry to stretch out the call.

Thank you for that input.

I am going to -- Lindsey, we're going to go ahead and wrap up.

Thanks for everybody participating on today's call.

As you know we'll be around all day to answer any questions you may have that weren't answer on the conference call, and Lindsey, if you could please remind everyone with the appropriate redial numbers so that we can get that in the transcript.

Thank you.

Thank you for participating in today's third quarter earnings conference call.

This call will be available for replay beginning at 3:12 p.m.

eastern standard time through 11:59 p.m.

eastern standard time on October 27, 2007.

The conference ID number for the replay is 15375253.

Again, the conference ID number is 15375253.

The number to dial for the replay is 1-800-642-1687.

That number is 1-800-642-1687 or you can dial 706-645-9291.

Again, that number is 706-645-9291.

This concludes today's conference call.

You may now disconnect.