濱特爾 (PNR) 2011 Q1 法說會逐字稿

Good morning my name is Michelle and I will be your conference operator today.

At this time I would like to welcome everyone to the Pentair Q1 2011 earnings conference call.

(Operator Instructions)

Thank you.

Ms.

Zawoyski, you may begin your conference.

Thank you, Michelle, and welcome to Pentair's Q1 2011 earnings conference call.

We're glad you could join us.

I'm Sara Zawoyski, head of Investor Relations, and with me today is Randy Hogan, our Chairman and Chief Executive Officer, and John Stauch, our Chief Financial Officer.

On today's call, we will provide details on our Q1 2011 performance, as well as our updated full-year outlook, as outlined in this morning's release.

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 risk and uncertainties, such as the risks outlined in Pentair's 10-K as of December 31, 2010, and today's release.

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

Actual results could differ materially from anticipated results.

Today's webcast 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.

We will be sure to reserve time for Q&A for investors and analysts after our prepared remarks.

We'd ask that representatives from the media joining us today please reach out to our media contacts that we can be sure to answer your questions.

With that, I will hand the call over to Randy.

Randy?

Thanks, Sara, and welcome everyone.

Let me begin with Q1 results shown on slide number two.

Pentair performed exceptionally well in the quarter, with sales up double digits, segment margin expansion of 260 basis points, and EPS growth of nearly 50%.

While Q1 is typically our lowest sales quarter, we are off to a great start to the year, with 12% organic growth year-over-year, a continuation of 2010's double digit growth.

Our commitment and investments to grow in fast-growth geographies, expanding our energy-efficient and sustainable product offerings, improving our cost structure, and deepening our lean employment across the Company, are clearly yielding positive results.

The top-line strength was broad-based across businesses and regions, with water up 8% and technical products up 20%.

And with US sales up 11%, Western Europe up 22%, and 18% growth in our fast-growth regions.

Overall, pricing was solid in the quarter, with productivity more than solid, both helping offset higher materials costs.

As a result, the additional $80 million of sales compared to prior year converted at a nice rate, yielding meaningful incremental operating profit.

In Q1 we delivered adjusted EPS of $0.52 compared to the $0.35 in the prior year, so the sales and margin performance in both water and technical products drove EPS $0.07 above the high end of guidance we provided in early February.

On cash flow, we reported a net cash usage, as is typical in the first quarter.

We are still on track to deliver more than $240 million for the full year.

In sum, we are off to a great start to the year, thanks to the efforts of the global Pentair team, and enter our seasonal critical quarter, Q2, in a good position.

Now let's turn to slide three for a review of our water business in more detail.

Water revenues grew 8% in the quarter, driven by global expansion, distribution gains and innovation, with growth across each of the businesses and solid execution on pricing.

Residential flow sales were up 6% in the quarter, including 1 point of FX benefit.

Pump sales were up double digits in Europe, as we began to see some market rebound, as well as in Canada, due to flood-related pump demand.

US residential sales were down modestly due to tough weather-related comparisons of a year ago.

Agricultural equipment continued to post robust sales gains, up 15% in the quarter.

In ag, we recently introduced a new energy-efficient Niagara centrifugal irrigation pump, designed for traditional pivot and flood irrigation applications, and it's also applicable in the high-growth strip irrigation segment.

Pool sales were up 15%, reflecting solid sell-through and continued share gains.

We do expect the year-over-year growth rate to moderate in Q2, as we get back to a more normalized buying pattern.

Nonetheless, the initiatives to improve quality and delivery, invest in innovation, increase social media use, and drive strong distribution programs, are clearly yielding results.

We added another 100-plus dealers in the quarter, on top of the other 350 additions in 2010, bringing our dealer count in the US to over 7,000.

We continue to lead in innovation around energy efficiency and sustainability, innovations that are supported by 25 different utility-funded rebate programs across the US.

This quarter we launched a new version of the IntelliFlo variable speed pump, featuring an onboard built-in time clock, bolstering the line of our Eco Select product line.

Without a lot of tailwinds in this business, we continue to post double-digit sales growth.

We believe our pool business has gained more than 5 points of share during the past two years, demonstrating the brand strength, innovation leadership, and selling capabilities in our pool business.

Residential filtration sales grew 3% in the quarter.

Our new softener products launched last year, like the PRO-ELITE 2, helped offset what continues to be a relatively flat market in the US.

Fast-growth regions grew at a robust pace, up over 25% as we continue to increase retail penetration and add new OEM and channel partners.

In 2011 we expect over half the sales in this business to come from outside the US.

Engineered flow sales increased 4% in the quarter.

Strong global commercial and industrial sales helped offset a decline in larger US municipal projects sales.

In commercial, we are encouraged with the progress we are making to grow this business outside the US, and we continue to expand our industrial portfolio, adding a 300-horsepower reciprocating pump for a segment of the oil and gas market that we have not previously served.

US.

Municipal remains sluggish as we had expected, with the short cycle business growth offset by year-over-year declines in larger longer cycle municipal business.

Filtration solution sales were up 10%, with strength across every key segment, including desalination, food service, and energy.

We continue to be encouraged by the positive moments in the desalination market, and resulting demand for our products, with Codeline and pretreatment filtration up 20% in the quarter with a strong backlog.

In food service, we are making inroads in fast growth regions, adding new distributors in China, Korea, Malaysia, and Singapore this quarter.

We also grew in the industrial, medical and energy segments.

Importantly, we continue to make significant progress in building our systems business with particular momentum in China and India.

We are running on all cylinders and we expect the CPT will only accelerate the growth prospects of this business.

The right half of the page shows Q1 water operating profits and margins.

Water operating margins of 11% were better than expected due to higher operating leverage and productivity.

This resulted in a 220 basis point operating margin improvement year-over-year despite material inflation pressures and only a mid-quarter price increase benefit.

Our execution on our growth initiatives are driving top-line results and our lower cost structure along with lien disciplines and pricing actions already taken should enable margin expansions of more than 100 basis points for the full year.

Now let's move to slide four for a review of technical products.

Technical product sales were up 20%.

While this growth rate reflects a bit easier comparison to Q1 2010, average daily sales were up sequentially from the fourth quarter.

Yet again, growth was broad-based across geographies and most end-markets.

Our largest segment, industrial, posted a 21% year-over-year increase as we continued to see increased spending on maintenance and capital.

General electronics and energy also posted strong double-digit growth.

In fast-growth regions, China grew an exceptional 68% in the quarter, building on the over 45% growth for full-year 2010.

We also launched 10 new products in the quarter, including a new filterless Spectracool global air conditioning solution, reducing system costs and improving operating efficiency.

We expect the breadth and depth of our product portfolio, the brand strength we have, and global manufacturing footprint, to enable us to capture more and more growth opportunities as the market recovery continues to strengthen.

I'm particularly pleased with technical products operating margin performance, a record 17.5%.

Through every cycle technical products earnings power grows, this is a true testament to our lean disciplines and brand and channel strength in tech products.

We are now targeting roughly 17% margins for this business in 2011, compared to the low teens five years ago, and I am confident there is still plenty of runway for improvement.

Please turn to slide five as I cover the market trends in the quarter.

In short, the end-markets where we did not expect any tailwinds, or any help, like US residential and municipal, played out as expected.

And those sectors where we expected strong pull-through demand, like industrial, performed even better than we expected.

And in industrial, for both water and technical products, we're seeing strong demand for our products as capital and maintenance spending continues to rise.

While as expected, the US residential recovery is slow, we have a significant installed base to serve, with over 80% of revenues now generated from repair, replacement and consumables.

In pool, our largest US residential business, we're seeing some pockets of permit growth in Florida and Texas, but more importantly, pool owners are spending on pool maintenance upgrades for energy efficiency gains and automation.

In residential flow, we had some tough year-over-year comparisons due to the 2010 flooding season, and in residential filtration, US housing starts and financing continue to be a drag.

Outside of the US, residential continued to grow double digits on market recovery in Europe and greater penetration and growth in other markets.

We are encouraged with the positive trends in commercial, which include our food service water filtration business, global fire pump systems, as well as a broad range of technical products, each growing double-digit in the quarter, due to global expansion and greater penetration.

And finally, infrastructure was mixed.

US municipal continues to be choppy, with a weak large project business expected for 2011.

In contrast, we continue to see orders grow on our Codeline business and expect this trend to continue.

Also, global infrastructure growth is strong, particularly for our technical products business, with our participation in the e-parking applications in both North America and Europe, we have talked about before as examples.

In total, most markets continue to trend positively and we continue to grow despite those that are not, with value and innovation, global expansion, and distribution gains.

So with this great start to the year and solid organic growth let's turn to slide six to discuss our recent acquisition announcement.

We are very excited about the Norit Clean Process Technologies, or CPT for short, acquisition, and the additional growth and value creation opportunities this provides for Pentair, and thus, our shareholders.

We had great reception and excitement from the CPT team after the announcement, and continue to expect the deal to close sometime in Q2.

CPT is a tremendous fit with Pentair's strategy.

First, CPT will strengthen our presence in key growth regions, with greater than 40% of their revenue in fast-growth markets, including China and Latin America.

Second, CPT provides leading innovative and highly valued filtration technologies, including ultra filtration, nano filtration, and membrane bioreactors, advancing our position in attractive growth segments in water, such as desalination and water reuse.

And finally, CPT is the worldwide innovation leader in membrane filtration for the beverage industry.

We believe CPT will strengthen Pentair's global leadership position in water and beverage, and is a deal that expands our scope, adding capabilities, technologies and channels with a compounding growth potential.

Now let's turn to slide seven.

For our standard work, details of free cash flow are on the left of the slide and a summary of our debt levels and maturity dates are on the top right section of the slide.

In free cash flow, we are on track to once again convert greater than 100% of net income to free cash, while investing for future growth.

The cash usage of roughly $60 million in the quarter reflects normal seasonality, as well as timing of growth investments and payments.

We returned approximately $20 million to shareholders through dividends in the quarter.

Our 2011 annual dividend is $0.80 per share, which is roughly a 35% payout ratio.

As you can see, we have a comfortable debt level and remain committed to an investment-grade debt rating

On ROIC, which is shown in the bottom-right section of the slide, we continue to make progress on this important commitment, adding another 60 basis points for a return on invested capital of 8.8%.

Our goal will continue to be trying to drive ROIC into the double digits in the near future.

With that, let's turn to slide eight for a summary of the quarter before I hand it over to John.

I believe our first quarter results, along with our 2010 performance, demonstrates Pentair's many organic growth opportunities, and importantly, our ability to invest in the right ones, execute them, and get outstanding results with them.

While first quarter is our smallest quarter, we expect those things that worked for us in the quarter to continue.

Fast growth region sales were up 18%, and with this growth comes scale to drive better operating leverage.

Innovation continues to be strong, and productivity and pricing is in place to help advance profitability in 2011, in spite of the material inflationary pressures we expect to continue.

This strong start is reflected in our updated outlook for the year, and we enter our largest seasonal quarter with good momentum.

With that, let me turn it over to John to review in greater detail the Q1 performance and 2011 guidance.

John?

Thank you, Randy.

Let me begin on slide nine, titled Full Year 2011 Margin Expectations.

As Randy mentioned, we had robust year-over-year margin expansion in the first quarter from both water and technical products.

The first quarter for water is a seasonally lower quarter, and usually not a strong operating margin quarter.

So, we feel good about our start and feel confident that we will see continued margin expansion as we head into Q2.

Technical products also had a great start, driven by 20% revenue growth, lean operational improvements, and disciplined expense management.

Both of these segments more than offset the anticipated slightly higher corporate costs, and drove a 210 basis point improvement for the first quarter at the Pentair consolidated level.

As we look ahead to the full year, we definitely feel the pressures of cost inflation, and are anticipating material prices to climb sequentially throughout 2011.

We expect to mitigate these pressures through accelerating price increases, continued sourcing programs, and continued lean and operational productivity.

Overall, we are pleased about our start, feel like we understand the price/material equation for 2011, and are poised to continue to expand Pentair margins by at least 100 basis points to over 12% for the year.

Please turn to slide number 10, titled Q2 2011 Forecast.

As we look ahead to the second quarter, I would like to remind everyone that due to the seasonality of our business, the second quarter represents our peak earnings quarter for the year, and is very important in predicting our full-year results.

The expectations that I will share with you do not include any impact from our recently announced CPT acquisition, as we have yet to close on this transaction.

We are still on track for a Q2 close, and we will update you at the appropriate time as to the anticipated impact of the inclusion of the CPT business, based on 2011 business projections, final purchase accounting, fuel costs and currency.

In Q2, we expect revenue to increase over prior year quarter by high single digits, to around $860 million to $875 million, driven by mid- to high-single digits growth in water, and approximately 10% to 12% growth in technical products.

We expect that pricing actions will expand at close to 150 basis points year-over-year, higher than the 40 basis points realized in Q1, helping to mitigate higher material costs and driving Pentair margins north of 13% for the quarter.

We expect water margins to be around 14% and we expect technical products margins to be 17% plus.

We expect Q2 EPS to be up around 11% to 18%, or in the range of $0.68 to $0.72 per share.

We are forecasting a tax rate of around 32.5%, consistent with Q1 and our full-year outlook, and cash flow should exceed $100 million for the quarter, setting us up to deliver our full-year anticipated cash flow of greater than $240 million.

In summary, we are expecting another strong quarter in both water and technical products as market trends and operating leverage continue.

Please turn to slide number 11, titled Updated 2011 Adjusted EPS Outlook.

Our guidance for Q1 2011 was $0.42 to $0.45 per share.

We delivered $0.52 excluding the deal-related costs.

This is a beat versus the low end of the range of $0.10, and a beat to the high end of the range of $0.07, and was up $0.08 versus the midpoint of the range.

We've added those deltas to our previous full-year guidance of $2.20 to $2.35 per share, which puts us at an adjusted $2.30 to $2.42 per share.

Adding in our full-year expectation for the CPT business, we'd expect to be in the range of $2.33 to $2.45 per share, up 17% to 23% versus 2010.

As I mentioned earlier, the second quarter is the season for pool and residential flow businesses, and we also expect to close the CPT acquisition in Q2, so these will both be important milestones for us to complete.

I believe the strong Q1 start positions us well to deliver another solid quarter of profitable growth, including the increasing inflationary pressures, and softness in the US municipal and residential market.

Please turn to my next slide, slide 12, labeled Full Year 2011 Outlook.

Again, we felt that giving you the guidance excluding CPT would be helpful in assessing the base organic performance.

Starting with sales, we expect revenue to be around $3.2 billion, which includes the upside of Q1 plus a slight FX full-year benefit forecast the end of Q1 levels.

This represents a 6% to 8% sales growth versus 2010, inclusive of the impact of GIWW, or up 8% to 10% on a recurring basis, excluding the headwinds of the 2010 project.

We expect both operating income and EPS at the midpoint, to be up around 18% versus 2010, driven by operating margins of 12% plus, or up at least 100 basis points versus 2010.

In this forecast we have assumed a 32.5% tax rate for the year, consistent with the original guidance, and Q1 actual, and Q2 expectations.

And interest is creeping a little higher, on higher borrowing costs on our shorter term revolver debt.

As I mentioned earlier, we expect another year of solid cash conversion, and not listed here, but important to us, is an expected underlying ROIC of greater than 9.5% versus the 8.2% in 2010.

Please turn to my last slide, labeled Summary.

Overall, we had a very strong start to the year, driven by end market expansion, selling and marketing actions, and very solid operational execution.

We are raising the full-year guidance by the amount of the Q1 bead, and feel like we are in a good position to weather the impact of rising material inflation and cost pressures.

We are pleased with the progress in ROIC, and feel confident we will achieve our important cash flow goals and deliver on our commitments.

Now we will open it up for questions.

Michelle, please begin with the first question.

Deane Dray, Citi Investment.

What I'd like to start with is the pool business, and I was interested in hearing your point about the 5 percentage points of market share gain over the last two years and ramping the strong pull season.

But just talk us through the share gain -- where it came from, but where you go from here?

And specifically, I know you've got all these energy efficiency pumps that have made a big impact, you've added dealers.

Are there any product gaps that you would try to address here, and just step us through that share gain strategy?

Let me start with where the share gains came from, basically because we have had the most innovative and broadest set of products under our ECO-SELECT brand, IntelliFlo pumps, the IntelliPro pumps, the IntelliTouch controls, the SunTouch controls.

It's a pretty broad array of products, and they are so compelling on an economic basis.

One of the key drivers is as people invest in upgrades -- the upgrade cycle or the replacement cycle in the pool business is much shorter than a lot of other businesses.

It's really compelling, particularly in areas where they are getting rebates to upgrade to the system.

And even when you upgrade, you don't just upgrade the pump, although with the product that we just released you could just upgrade the pump.

You upgrade the controls, you might put in a salt chlorinator, and you upgrade the whole system.

Because we have the most compelling package of the IntelliTouch pump and control, it kind of pulls through the whole system, so that's one element.

The second element is, because we have the most innovative set of products, we have a lot of pool builders who used to use other equipment and have converted all the way over to us, and not just on pumps again, on the full package.

So we've gained a lot of distribution.

Importantly, we're in more retail outlets in the pool business.

That still has a lot of room for growth because the key sale, we still probably only have about a little over 5% penetration of all the potential upgrades from single-speed to multi-speed, in terms of the installed base.

So we have a huge opportunity, and the impediment, or the barrier to achieving that higher penetration is basically end-user customer homeowner awareness.

If you can get to a homeowner, they will buy it.

It's just so compelling.

So being able to get to them, that's what we're using social media for, that's what we are using these greater retail touch points, in order to get the story out.

But we are not by a long-shot done in terms of our ability to continue to grow.

It's always had nice demographics, and the demographics are really holding sway again.

Great, and then just a follow-up question over on the municipal side.

As you add businesses like Norit, the municipal percent of the mix is actually much smaller.

But to the extent to which you can, just talk about the tone of business within muni, you had called for it to be a little bit choppy -- it seemed to be in line with expectations -- but what's the outlook for the year on projects for municipal applications?

We think it is, as you said, in line with what we thought it before.

What we believe really happened was the stimulus money that came from Washington just basically funded products that were underway, that wouldn't have happened if the money had not come, probably.

That money is done, and so there is no money right now in municipal and state governments.

So they've cut back, and they are really on a break-and-fix basis, which is why we expect to see more of the short-term kind of hook-and-turn business versus the larger, bigger projects, which we think it will hold sway in the US.

In contrast, the infrastructure opportunities outside the US are vast.

As you know, with industrial growth, with wealth growth, you get a geometric growth in water need, so the ability to deliver water, whether it's to mechanized irrigation in farming, or whether it's to provide homes -- the large burgeoning middle-class with water in their homes, let alone clean water in their homes -- those are the big opportunities we are focused on right now.

And CPT will help us with that.

They are more global than our municipal business, with the exception of Codeline on the flow side, and on the systems side.

They are in clean water, potable water, they're in wastewater, globally.

So, I think it's going to help us, even on the municipal side.

Thank you.

Jim Lucas, Janney Capital Markets.

First, kind of a minutia question.

The receivable increased a little bit ahead of sales.

Could you talk about if that is international mix, just sales progression during the quarter, and then how you would expect that to play out in the second quarter?

Yes Jim, the receivable mix is obviously, we're driving growth, but also pools growth generally gets paid for in Q2.

So they carry a fairly sizable receivable balance into Q2 and it gets paid off.

Then the third element is, there are a couple of large projects that we are completing in engineered flow which we expect to collect in Q2 as well.

So nothing unusual, just the timing of the projects that we've shipped already, and the collection of those are due Q2.

Okay thanks.

Thanks for noticing the balance sheet, by the way.

Well some of us do look at it.

On tech products, the margin profile has improved there pretty dramatically, and clearly a lot of work, and it's become a case study for what you guys are able to do.

Could you talk a little bit about what that profile is going forward with 17% margins now?

What could that business potentially do?

Jim, when I look at that business, when I think about the kind of peer companies and peer performance, there's no reason that business can't be 20%.

If you think of other people in that space, they can do 20% in terms of ROS, so I don't see why that business can't do 20%.

At the same time, we are focused on investing to grow that business globally.

We have a big opportunity, I think, to grow that business outside the US and outside Western Europe.

I want to see margins advance, but I also want to improve our performance.

You saw a big boost in China.

That is a bunch of large projects so that can be lumpy, but it's still a nice start that we have been investing in.

So, I would expect margin advancement and globalizing that business to proceed apace and together.

Okay.

Finally, water margins came in better than expected in the first quarter, could you just give us an update on what price increases have come through?

You did allude in your prepared remarks that price inflation, you feel good with the mix, but just give us an update on what you're seeing there?

If you look on those pages, you can see we called price solid but you can see it was only 40 basis points growth of price in the first quarter, but we did not get a lot of them implemented.

There were none really that carried through the whole quarter.

For the Company, we expect 150 to 200 basis points for the year and in water, same thing,150 to 200.

Jim, I would just add a couple points to Randy's comment.

First of all, we converted in water the incremental volume growth that we thought we should expect, and that came through an incremental 40% and that's what we expect.

As reflected in what Randy said, our full price realization won't come until Q2 and Q3, as we pace those programs.

Right now we feel like we've got material covered at about 150 basis points of price increases.

But we are certainly poised to pull the lever in a couple of our businesses, as we normally do in the season toward the back half of the year, to get close to the 200 basis points to cover any incremental inflation that may come.

Okay.

Great, thank you.

Jeff Hammond, KeyBanc Capital Markets.

Just to follow on the whole price-cost issue.

Can you just talk about any supply chain issues you are seeing, whether it relates to Japan or just more broadly strength in the business?

Jeff, in Japan, we do have business there.

We have seen some slowing in demand, but it hasn't really impacted our supply base, and it did not impact our small plant there or our employees there -- well, besides the trauma.

And then as far as any disruptions in the supply chain beyond that, Jeff, no, not at the moment.

I think the industrial demand is generally predictable, and we are pacing that, and we are seeing inflation, clearly in things like freight driven by oil, and resins and copper.

But nothing that is alarming at the moment, and nothing outside of our ability to contain it.

Okay, great.

Then, just finer-point question.

How should we think about corporate expense for the year?

I think corporate is going to be between $60 million and $65 million, Jeff.

There's nothing -- really, what we are running through there is it's got a little higher pension expense coming through, and we've got some growth investments, especially related to marketing and global growth in areas like Brazil and China.

Beyond that, it's generally higher in Q1 because of the way that the stock options are expensed and directors' comps are expensed, but other than that, it's pretty much $60 million to $65 million for the year.

Okay.

Thanks, guys.

Hamzah Mazari, Credit Suisse

Just following up on the question on raw materials.

Could you remind us how much of the offset to that came from pricing versus productivity?

And then going forward, curious to see if you are seeing more pricing power in your business relative to what it's been, given your chang in mix?

Or is just this strictly a raw material push-through going forward?

Just to be clear, in Q1 we had as we mentioned about 40 basis points of price increases.

So we were upside down on the price/material equation by about 50 basis points.

As we head into Q2, we are expecting to get closer to 1.5 points of price, but we'll still be slightly upside down, and then we cross over into favorable material performance in Q3 and Q4 as those anniversary -- the material prices where we were last year.

That's kind of where we are at.

Just to remind everyone, our distribution businesses represent about 80% of our sales at Pentair, so we tend to address the price equation through a distributor and dealer community that understands the pressures of inflation and normally are prepared to deal with it.

I would add, Hamzah, that we have chosen the businesses we are in, and we invest differentially in the businesses that have better structural traction.

My key measure as I talk to the businesses is you are not structurally attractive unless you have control over your price.

That is the single biggest determinant to prove that you actually have some control over your destiny.

So I would say we are back to the disciplines that I expect that -- we took the hiatus during the crisis, and I would say we are back to the same disciplines of price because of that structure, and no excuses for not getting it.

A question on your SG&A.

That seems high, but I understand there is some growth initiatives running through that line.

How do we think about that going forward?

Is it going to stay at the current run rate or adjust it for seasonality, or how much growth can we expect running through that line?

I think operating expenses came in just north of $160 million.

I think for the full year we will be somewhere around $650-ish million, and the seasonality is really, Q2 is the highest quarter, but it's really, the majority, the variableness, is the selling and marketing and the commission.

The percentage rebate--

It's the low sales this quarter that make the percentage go down.

Right.

Okay, perfect.

Thank you very much.

Michael Cox, Piper Jaffray.

Hi, congratulations on this quarter.

My first question's on the tech product side.

The growth you saw in the quarter, how would that compare to what you would estimate market growth was across your various businesses?

I'd say we are growing with the market.

I have not seen a lot of evidences where we are growing faster than the market.

I am very pleased, though, in particular with the growth we are seeing in Europe, and the margins we are seeing in Europe.

They are very high.

So we maybe have share gain there, but I have not yet seen the market information to validate it.

So that's where I'd leave it at now.

Maybe share gain, but data yet -- they haven't shown me the data yet to prove it.

On the margin front, following up on an earlier question, the work you have done in tech products -- I guess you have proven some of my skepticism wrong in moving up towards the Hoffman-type margins, but I was wondering if you could talk about some of the opportunities you have on the water side to use what you have learned in tech products, and to push margins on the water side higher from where they are today?

Well, the biggest single driver that will get margins back up to that 15% target is the volume.

Water has a big exposure in the residential markets, and we still have not seen the kind of the recovery that we will see that will help drive volume.

So that would be a big lift.

The other is, you are never done with lean.

You're never done with our Pentair Integrated Management System -- you can always be better.

And I would even say that tech products has not yet shown me that they're high-performance.

But they are certainly ahead, perhaps not ahead of pool, but ahead of the rest of the businesses -- residential filtration, residential flow, and filtration solutions.

It's really -- what I would say is, if we can get to the same level of discipline in terms of driving our lean practices in every one of their facilities, and in every one of their order-to-delivery processes, as we're in tech products, 15% is a no-brainer.

But if we are 80% of where we need to be in tech products, we're only 45% in the water.

Okay, great.

Thanks a lot.

Christopher Glynn, Oppenheimer.

Another question on pool.

How would you rate your lead time in the IntelliPro and Eco Select technology versus the competition?

You mean in terms of how much further ahead of them we are in our technology?

Yes.

Clearly, our competition now has offerings.

I think the fact that we have been in the market a couple years ahead of them and have a dealer network that is trained to approach the homeowner and up-sell the product gives us an advantage.

And the best sales force to keep educating the dealers, because to sell these products, is not just putting him out there, you have to get to the key decision-maker, who is the homeowner.

You have to be able to get them the homeowner.

Chris, what I would say, and Randy mentioned this earlier, I think it's the suite of products that we offer and the automation platform that is very user-friendly to operate that gives us an ability to put our suite of capability out there in front of the consumer

Okay.

It sounds like for the balance of the year, material price cost economics are going to improve a little bit, so just wondering now, John, you pointed out the amount of the amount, just the 1Q beat.

Is this just caution here or a reason not to incorporate some of the first quarter trends?

We are excited about the performance in Q1.

It wasn't perfect, but it was damn good.

We are excited about the momentum we are carrying into Q2.

We are damn excited about CPT and we want to get that closed.

The second quarter is the quarter, that's our tell quarter, that's 30% f our profitability from the year comes from that quarter so we are in it, and we will see.

Okay.

Last one on tech products, the China growth was great.

You did refer that it can be lumpy but can you update on the geographic split in that segment, given some of the differential in the numbers and what is more continuous with China, versus lumpy, pretty much a qualitative question?

On tech products?

Yes, please.

As Randy mentioned, we have a nice cost position up in Qingdao in China and we have a nice factory.

We have done a good job of filling in, as we talked about with rail and infrastructure.

That lumpiness tended to be the fact that we did have telecom programs, and still do, that we're bleeding off.

But we like our position, and to kind of share with you our growth, just in volume growth alone in China we are expected to be up 60% year-on-year in the full year forecast.

We are making good progress in areas like India, where we will be up 40% to 45%.

We are finally up in the right positioning in our Brazil operations, up close to 20% this year.

So we have started to make progress more around what Randy mentioned which is the right product, the right vertical market segments, and those are the more sustainable project business that we can expect.

Great, thanks for that color.

Thank you.

Wendy Caplan, SunTrust Robinson.

Could you talk a little bit about the investment in the business, specifically R&D, and what we should expect going forward this year?

From a dollar percent?

Dollar basis?

It's right about 2.2%.

Our long-term goal, if you look at our plan by 2014, our ambition is to be spending north of 3% and approaching 4%.

You can expect us to continue to invest in innovation.

We are really particularly focused in both water and technical products on sustainability.

Energy efficiency, lower chemical usage, safer products, and in localized products.

More of our renovation dollars is going into products that help us meet the markets in India, China, Brazil.

Particularly now, with Heatro Filtros, in China, we are looking at what is the fast growth market, residential filtration product line of the future.

So, you will see us investing a lot more there.

With CPT, they spend at a higher rate, I don't have a number right here at my tips, but we will continue to invest in all-fiber membrane technology, CPT is, we believe, the world leader in the application of those technologies, so we will spend more in applying that technology to broader and better opportunities.

for growth.

Thank you.

You have addressed the issue of geographic growth.

Are there any laggards at this point, geographically?

The Middle East, we were skewed commercial in the Middle East, and that kind of skewed the UAE, and we need to grow more in Turkey, we need to grow more in Saudi Arabia, we need -- Actually we had some nice wins in Egypt.

We don't know when they're going to ship.

So the Middle East, I'd say, is slow.

Eastern Europe has been slow, but we are seeing some advancement there now, particularly in Russia and in the ag area.

Okay, and one last one, I'm not sure if you covered this yet.

You talked about cost inflation, obviously, but wage inflation, is there any of that that's worrisome?

We budgeted probably on the little higher end of the scale, closer to 3%, and that's where were coming out at, Wendy.

Thanks so much.

Ajay Kejriwal, FBR.

So technical products, very nice performance, and just wanted to understand the top line and little better.

Is that just a bounce back in the end markets from depressed levels, or there's some new product?

I know you talked about China, but any more color there?

Just trying to get a sense of the trajectory here.

Yes, I will start, and then I'll let Randy conclude on the strategic view, but to share with you, we did accelerate our average daily sales rate last year, coming out of Q1 all the way through Q4.

So there is a little bit of what you would call a slightly easier comparison.

But the end markets in industrial are strong, and companies have cash flow; they are investing in productivity, and they are investing in data infrastructure, global infrastructure, and technical products plays into those vertical markets and does exceptionally well when those markets do well.

I think that was comprehensive.

Okay.

Good.

Did you see any benefit from distributors restocking in anticipation of price increases?

Can't speak to seeing that.

No, in fact, that was lower than I thought it would be.

I think one of the things that not just us but others in the industrial world have proven in the downturn is, we rapidly adjusted cost.

And we maintain high levels of service and distributors are learning that they can count on their strategic industrial suppliers to deliver fast.

If you look at our standard business, we guarantee we will deliver it in 48 hours.

That's pretty fast.

So I think they are actually getting by on a little bit lower inventory.

I will have to check some of the public companies and see if that hypothesis is right, but --

Good.

Maybe one more on margins and technical products.

Very nice incrementals in the quarter, and you talked about that 20% potential, so maybe talk about expectations for incrementals going forward.

Is what you did in the quarter, is that sustainable?

What's kind of your goal?

Our current outlook is 17% for the year, which is a nice advancement year-over-year.

It's not as high as the 17.5% in the first quarter, obviously, but we expect that business to continue to get better and better.

If you take a look -- and you may recall the charts we showed at the analyst and shareholder meeting back in September, the nice thing about tech products is while it does have a cycle, every cycle the lows get higher and the highs get higher.

And we are in an up cycle.

I think it's an up cycle that could continue for some time.

I feel confident in the 17% for the year.

We would think that incremental conversion in Q1, the low 30s, is what we expect to deliver on for the full year, as Randy mentioned.

Very nice.

Thank you.

Mark Barbalato, Vertical Research.

Hi, thanks for taking my question.

So it looks like you guys had a nice raise EPS guidance in the quarter, however the free cash flow guidance remained the same.

What is causing the differential there?

The cash flow -- we typically start in the negative position as we pay taxes, you pay bonuses, you pay the rebates on the 80% of our sales through distribution last year.

So I'd say the minus $60 million is sort of return to normal.

Last year's first quarter was actually because of bonuses and rebates were much, much lower and taxes were lower.

We had less of a draw.

$240 million is still over 100% conversion of -- well it's right at 100%, isn't it?

Just to add on to what Randy said, we would not usually adjust the cash flow forecast [to seem kind of mid-year in the collections].

The growth obviously puts pressure on the working capital and we have got to take a look and analyze it.

And then we also have a -- when we pay our cash taxes matters, too.

Nothing changed in the cash flow forecast.

The Q1 didn't put any more pressure on it.

We still think we're are on pace for the $240 million for the year.

Okay.

The increase in revenue growth that you guys are seeing has kind of -- putting a strain on working capital.

Is there any chance that kind of reverses and that there is a good upside to free cash flow, kind of consistent with the EPS guidance increase?

Yes, I would just say that we are a disciplined cash flow Company, and we do a lot to drive working capital improvement.

We had some substantial improvement, almost a turn last year in working capital.

We are targeting another half a turn this year, and we're doing everything we can to get it.

The other thing is, part of the annual incentive is based on cash flow performance, so people are motivated to max it out.

Okay great.

Thank you very much.

John Quealy, Canaccord.

Good morning, it's Chip Moore for John.

Going back to R&D real quick, you guys have done a great job over the past few years introducing a number of energy-efficient products for various markets.

Can you just talk about some of the focus areas going forward for both water and tech products?

And then, with the integration of CPT, if some of that takes a backseat near-term?

You're talking about R&D specifically, or energy efficiency?

R&D related to energy efficiency.

We still are not done.

As I said, the penetration is still fairly low in pool.

We introduced an IntelliTouch-like set of controllers in the residential business.

We expect that to continue.

I think in the area of commercial, industrial and municipal, one of the interesting things is there has always been a high focus on energy efficiency in what I would call the process side of industrial, but there has never been that big a focus on energy efficiency on the facility side, which is the water supply side.

So we believe, and particularly in the municipal field, that focusing on energy efficiency, which is driven by variable speed essentially, is a big opportunity.

So that's one of the areas we are focusing in.

The other big area of focus is in filtration technology.

Now with CPT as I mentioned, we intend to advance the leadership they have in ultra filtration hollow fiber membranes, particularly as it applies to waste water and potable water, and in beverage.

The final thing is, as we move from components to systems solutions, that is the other area where we are focused on developing our product line.

We mentioned before that we have developed a range of standard RO systems that can be used in an industrial setting or a commercial setting.

We've launched in the Middle East and we've launched in the rest of Asia, so you can expect us to do more of that as well.

Great, thanks.

Brian Drab, William Blair.

Good morning, congratulations on a great quarter.

Just a couple questions left on my list here.

Could you talk a little bit more about what you saw in Europe in the quarter?

I know you said residential flow did well.

What other details can you give us about what's driving European growth?

The technical products did really well in Europe.

Residential flow, their largest position is in Europe --excuse me in Europe is in Germany and in Eastern Europe.

And the business there in Germany did really well from a growth standpoint.

That's really a function of the German economic recovery.

As you know, Germany is leading that.

Actually, technical products serves Europe broadly, but it's largest share is in Germany, so clearly, the German performance has been a big lift for us there in Europe.

Okay, great.

Your comment in the press release, expectations for a modest recovery, that you are seeing a modest recovery in US residential.

Can you give a little more detail regarding order rates for residential filtration, residential flow, and the outlook for the balance of the year?

We think about US residential in three parts.

The pool business really doesn't -- because the replacement cycle in pool is really less than five years, and as everyone went into the fetal position and stopped investing, whether it was in a factory or a business or a home, people are out of the fetal position and they're investing again.

If they have a pool they invest in it.

And when they invest in it, they find out that they can upgrade and save energy and that is a compelling economic opportunity.

We see that as being a long-term attractive growth.

When new pools get built, there will be a nice, big plus to that, but we still think this is a business that's going to keep growing, maybe not at the rate of the first quarter, but growing strongly.

Our residential flow business, as we mentioned retail actually was down in the quarter because of tough year-over-year comps, but we're seeing stabilization in the pro channel, and again there is some upgrade opportunities with energy efficiency there.

Tucked into that business for us is ag, and ag is very strong, both in the irrigation standpoint and on the spray side.

And then residential, what's going to drive that is break-and-fix, sump pumps break-and-fix sump pumps, break-and-fix well pumps, and then flooding, and then ultimately home builds.

Right now, that's why we say over 80% of our business is driven today by the install base.

So we can expect that to be growing without any kind of residential, we expect that to grow at mid-single digits, 4% or 5%.

Residential filtration, we actually have some really exciting things going on there in terms of new product innovation and the like.

But a lot of those investments tend to be around home sales, not just new home starts.

Most of the money that gets spent on a home gets spent in the year before it gets sold and the year after, so a lot of this is a function of getting housing going.

We expect to get a lift there, and that's why we are seeing lower growth rates there, again lower single digits.

No downside.

The downside is all done.

It's all upside from here.

But in the case of residential filtration, as I mentioned, more than 50% of their sales are outside the US now, and that's where a lot of the excitement is happening.

You think about it, the last 10 years we've had the greatest advancement in human history in terms of people.

Hundreds and hundreds of millions of people entering the middle class -- probably a billion people entering the middle class.

The US residential market is not as important as the Chinese residential market in the next 10 years.

That's where we are rightly focusing our efforts in that filtration business.

That's how I think about it.

My view is we are performing as well as anybody, with the US residential recovery on top, when it happens.

Thanks for all the thoughts.

Michelle, given the time, can we just do a quick check-in on who's in the queue?

We have, actually, three questions in the queue.

Let's do those.

Garik Shmois, Longbow Research.

Just a couple quick questions.

First off, you mentioned quite a bit about new product introductions, particularly over the last couple of years.

Is it possible to quantify how much of your revenue guidance this year incorporates some of these new products you're introducing?

Probably a couple points of the growth.

Okay.

Lastly, on the first quarter, both segments clearly outperformed your prior guidance, both on the top line and on the margin.

Can you provide some more color on perhaps what was surprising to you?

Where you saw some of the most upside relative to your expectations, and maybe if you could talk about 2011, understanding that you didn't change your full-year guidance except for adjusting for the 1Q beat, would these segments continue to be perhaps the star performers through 2011?

The performance is really broad-based.

Every GBU grew.

Western Europe clearly was stronger than we expected.

We expected it to be up, up as strong as it was, was I would say, an upside.

We expected water margins to be better, and they were really a lot better in the first quarter.

I would like to see both of those continue, but they were both above the rates that we had planned.

That's probably it.

Okay, great.

Thank you very much.

David Rose, Wedbush Securities.

Most of my questions have been answered, so that leaves me with just a couple.

First, I was wondering if you can quantify the impact of the market growth on margins, i.e., India and China, what impact the growth in those markets have on margins?

Any guess?

I would say it would be rounding, David.

I think in China both our technical products and water margins are in the low double digits, so not quite at the levels of those businesses, but not impacting substantially from a mix perspective.

And India is profitable for us as well.

Neither one, despite their growth, had a severe negative impact on overall ROI.

As I recall, you were running about 60% capacity in China.

As that goes up, I'm assuming we will see materially improvement margins in China?

That's correct.

Okay.

As far as CapEx allocation for the year, can you give me an idea of how India and China are planned for this year versus last year, in absolute numbers if you have been?

We will spend between $60 million and $70 million of capital this year.

India will be up maybe $1 million to $2 million versus last year.

China will be down.

We had a major investment to double the factory in Suzhou last year and we will not double it again.

Call it down about $3 million to $4 million, David.

Last question is on the filtration solution side of the business.

It is so small, I imagine right now, but I think you will start to grow.

Can you quantify a percentage of system sales in that business?

If not a percentage, maybe an absolute number?

System sales is a small percentage.

Call it 25%-ish for our current filtration solutions business, and when you put the CPT we are starting to grow and approach 100, so it becomes much more like 30%.

$100 million.

We're talking about dollars not percentage.

I got that.

Okay, great thank you.

Mike Halloran with Robert W.

Baird.

A couple quick guidance ones.

First, just making sure I understand what your thought process is on the current guidance range for the full year.

Very good first quarter results.

You raised your numbers by a pretty comparable amount to the first quarter overage.

Everything you're saying sounds encouraging and it certainly sounds like if you put a normal sequential trend off the first quarter numbers, you get to something above your guidance range.

Is the thought process simply an element of conservatism ahead of what is clearly an important 2Q quarter, particularly given the seasonality in the water side or is it something else?

We don't typically get out ahead of our skis until we see the second quarter, well, hopefully won't get out ahead of our skis, anyway.

Plus CPT, we are focused on integrating that and getting that in, and seeing it, as we expect the $0.03.

We have not put in the guidance yet because we will adjust guidance when we actually close it with the specific numbers and have a better sense of what that number is.

That's what it is.

That's what I figured.

And then the second one, somewhat related, more TP margin expectations, I know you alluded to it earlier, you did 17.5% this quarter, guidance for the year is somewhere around 17%.

Normally you see a little seasonality in the business with some upward trend throughout the year.

Curious why margins would go down from 1Q or if it goes back to the conservatism side of things?

As Randy mentioned, there's nothing inherent in the business with the price or the steel or commodity, it's really about this business, being an important part of Pentair and wanting to invest in globalization and its capabilities.

Quite frankly, given its ROIC rate and given its growth, it deserves to invest in itself in those regions.

So there is a little bit of investment in Q2 to Q4 numbers, and obviously, we'll moderate and pace that appropriately, but I think they deserve every right to invest in their global growth.

I'm not saying differently I'm just curious if the amount of growth from 1Q is going to be, or sorry, the amount of internal investment will be different in 1Q to 2Q or relative to 1Q and beyond.

To me, seems like 17% seems a tad conservative, and you guys are doing a fantastic job on that side of things, so I want to make sure there wasn't something else going on.

We had the surprise growth, I mentioned with Western Europe, but the US was also stronger.

The US is the place where we have the really high margins.

Western Europe margins have advanced nicely but they are still mixed down and Asia, and the other markets, as they grow, there is mix in there too.

We don't expect -- we are not forecasting US, we are forecasting the US to grow, but not at the extraordinary rates they were, and that's in the first quarter.

We are expecting Western Europe and other markets to grow.

So there's that impact as well.

That's fair.

Appreciate the answers.

Michelle, thank you for everyone's participation and interest in today's call and Michelle, if you could state the replay numbers, that would be great.

Thank you for participating in today's Pentair Q1 2011 earnings conference call.

This call will be available for replay at 2.00 p.m.

Eastern time today through 11.59 p.m.

Eastern time on May 27, 2011.

The conference ID number for replay is 55560561.

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

Again, 800-642-1687.

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