洛克威爾自動化 (ROK) 2002 Q2 法說會逐字稿

Thank you for holding and welcome to the Rockwell Automation's quarterly conference call. I need to remind everyone that today's conference call is being recorded. Later in the call we will open the lines for questions. If you have a question at that time please press the star key, followed by the digit one.

At this time I would like to turn the call over to Mr. Tom Mullany, Rockwell Automation's Vice President and Treasurer. Mr. Mullany, please go ahead sir.

Thank you operator.

Good morning and welcome everyone to Rockwell Automation's quarterly conference call. I'm Tom Mullany, Vice President and Treasurer. And on the line with me is our Chief Financial Officer, Mike Bless.

Please not that our comments today will include statements relating to future results of the company and our forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those projected as a result of various risks and uncertainties, including but not limited to those noted in our earnings release and those detailed from time to time in our SEC filings.

During this call we will provide you with an overview of our second quarter results for fiscal year 2002. At the end of my remarks, Mike will make a few comments and in the time remaining take your questions.

As a reminder, the company's investment in Rockwell Scientific Company, which was formerly reported as the Science Center in last year's results, is accounted for using the equity method this year. And the company's proportional share of earnings or losses are including in general corporate net.

Looking at the quarter, our EPS for the second quarter came in at 21 cents per share before a tax benefit of 10 cents per share resulting from the resolution of certain tax matters. Income from continuing operations before the tax benefit was $40 million. Including the tax benefit, which was $18 million, second quarter income from continuing operations was $58 million, or 31 cents per share.

On a comparable basis, income from continuing operations in last years second quarter of $71 million, or 38 cents per share, would have been $83 million, or 44 cents per share, when amortization of goodwill and certain other intangible assets is excluded.

Revenues in the quarter were $958 million, compared to $1 billion $170 million in last years second quarter. Excluding the sales for the Science Center last year, revenues are down 17 percent, versus last years second quarter. But up two percent sequentially from the first quarter of this year.

Now looking at the results for each of our segments. Control Systems revenues were $749 million in the second quarter, compared to last year's second quarter sales of $898 million. On a year over year basis, Control Systems US sales were down 20 percent from last years second quarter.

Excluding translation, which had a two- percent negative impact on total sales, Control Systems international shipments were down five percent versus last year. Breaking that down by region, shipments were up three percent in Canada, down 11 percent in Latin America, down seven percent in Europe, and down four percent in Asia Pacific.

Now looking at it on a sequential basis, Control Systems overall sales were up about four percent versus the first quarter. Regionally, US sales were up five percent. And excluding translation impacts of less than one percent, international shipments were up three percent. The breakdown by region on a sequential basis, shipment were up 15 percent in Canada, up nine percent in Europe, down five percent in Asia Pacific, and down 17 percent in Latin America, again versus the first quarter.

Control Systems first quarter operating earnings were $81 million, down $61 million from the $142 million reported in last years second quarter. Operating earnings were primarily impacted by the sharply lower volume in the United States.

Despite the lower year over year sales decline, sales of our integrated logics architecture were up 21 percent over last year. While our Global Manufacturing Solutions business had a sales increase of two percent over last years second quarter. Within our GMS business, process solution sales were up 90 percent over last year.

On a sequential basis, Control Systems operating earnings were up $14 million or 21 percent, primarily due to the four percent sequential increase in volume. Return on sales was 10.8 percent for the quarter, compared to the return of 9.3 percent in this years first quarter.

Looking at Power Systems, Power Systems revenues were $176 million compared to last years sales of $212 million. On a sequential basis, Power Systems sales were about flat with the first quarter as the modest sales increase in motors was offset by a corresponding sales decrease in the mechanical business.

Power Systems had operating earnings of $12 million in the quarter, down $7 million, but up $1 million from the first quarter. The sequential improvement is due to the benefits of cost reduction actions. Return on sales in the quarter was 6.8 percent, up from the 6.2 percent in last quarter.

Our First Point Contact business, which was formerly our Electronic Commerce business, had second quarter revenues of $33 million, down from the $40 million reported in FY 2001. Operating earnings of $1 million were down from last years second quarter earnings of $5 million.

Some other items to note for the quarter, general corporate net expense of $16 million in the quarter compared to $15 million last year, and $18 million in the first quarter of this year. Interest expense for the quarter was $17 million, compared to $28 million last year and up from $16 million in the first quarter of this year.

And excluding the $18 million tax benefit, our tax rate for the quarter was 27 percent, which is the same rate as the first quarter and the expected run rate for the full year.

Diluted average shares were 188.9 million for the quarter. And outstanding shares at March 31 were 184.9 million.

Discontinued operations for the second quarter reflects a net benefit of $3 million, or two cents per share for the resolution of certain obligations related to two discontinued businesses. Related payments of $36 million in the quarter have been reflected as cash used by discontinued operations.

Looking at our year to date numbers, revenues for the six months were $1 billion 897 million, compared to $2 billion 282 million last year. Again excluding the sales for the Science Center, which are no longer consolidated, sales were down 15 percent from the first six months last year.

Segment operating earnings of $174 million compared to $321 million last year. And again, excluding the Science Center, operating earnings were down 45 percent from last year.

Results for the first six months also include a charge of $108 million after tax, or 58 cents per share related to the impairment of goodwill and a trademark. The total charge is comprised of a goodwill impairment charge of $73 million, that's both before and after tax, or 39 cents per share. As well as a trademark charge of 35 million after tax, or 19 cents per share which was previously recorded in the first quarter.

Income from continuing operations before this accounting change was $87 million, or 46 cents per share. Including the FAS 142 charge and the result of discontinued operations the year to date net loss was $18 million, or 10 cents per share.

Now let's look at the preliminary balance sheet information. Cash was $187 million, up $17 million from last quarter. Debt, both long and short-term is reported at $1 billion 10 million, which is up $90 million from last quarter. Our debt to total capital ratio is 40 percent.

Shareowners equity was $1 billion 532 million at the end of March, which is down $37 million from last quarter. Book value per share was $8.29 at the end of March, down from $8.52 at the end of December. Free cash flow was $34 million for the quarter, and $102 million for the first six months of this year. And finally, there were no share repurchases during the second quarter.

That wraps up my comments. Now I'd like to turn the call over to Mike Bless for his. Michael?

Thanks a lot Tom, and thanks to all of you again for joining us this morning.

I'm going to give you a little bit more color on the quarter that we just completed. Talk a little bit about some of the, pardon me, some of the special items, including the discontinued business that you probably noted in the earnings release and attached financial statements. Tom alluded to some of those things. Talk a little bit about some of the acquisitions we've made over the last couple months. As you've noted we've been pretty busy and active in the acquisition arena over the last quarter. And then obviously close by talking about our expectations for the third quarter, in which we're now operating.

As we said in the earnings release, results did come in this quarter a little bit better than we had expected. As you recall, we had been saying for some time, we've been predicting for some time that our first fiscal quarter, obviously the quarter ended in December, would be the low point for our volume in this business cycle. While that turned out to be true, what we were having problems doing at the time, a couple months ago and a couple of quarters ago, obviously was predicting when some sequential business volume increases would commence and obviously the velocity with which they would commence.

As you've now seen obviously, we did have some sequential growth here in the second fiscal quarter, which obviously we were pleased to see. I'll give you a little bit more color in a minute, expanding upon what Tom said, in a minute.

Most importantly to the management team here at Rockwell, what this performance and the results do confirm is that this company is executing on the two principle tenants of our plan that we've been talking to you about for some time. And let me just touch on that in a minute.

Obviously given the manufacturing recession through which we've just come, our first and foremost action over the last couple of quarters has been to get this cost structure in line with business volumes historically over the last couple of quarters. And importantly to get a cost structure and to continue a cost structure that would leave this company very leveraged on the upside as business volumes start to come back. And we feel we've done a real good job of doing that, we hope you agree.

As you recall we took about 10 percent of the workforce out through last fiscal year. And the team here has executed very well on both those actions and some of the other actions, plant closings and what not, that we've discussed with you before. You've seen the results. A two- percent sequential increase in volume in sales Q2 over Q1. About an 18 percent increase in segment earnings, and a little over 30 percent increase in EPS.

Importantly also the segment EBIT margins have now increased over 200 basis points from the low that we hit after volumes fell so suddenly in third quarter last year, you recall that obviously. And both the Automation businesses continue to improve their margins.

Tom touched on the regions and that's real important here. Obviously the two regions that have been the most affected in this manufacturing cycle have been the US for some time now, as you are quite aware, and then Europe over the last quarter, quarter and a half. Both of those regions were up nicely sequentially, as Tom said. US up five percent and Europe up nine percent on a local currency basis. So Europe had a nice comeback here this quarter.

Another important fact to note about sales this quarter in both the Automation businesses is that our sales were really equal to end demand, frankly even a little bit below end demand. As our distributors in both the and the Dodge Mechanical channels continue to hold their inventories flat. And even frankly, too inventories down a little bit during this quarter. Their stocks continue to be extremely low, and obviously as end demand picks up here, as it does our sales will be I guess doubly positively impacted one could say based on the channel's need to get restocked up here.

Second part of our plan as we've been talking to you about, obviously is our important growth initiatives. First and foremost our GMS, Global Manufacturing Solutions business, had a nice quarter this quarter. We are continuing to be very pleased about it's performance, up about two percent versus the comparable period of last year. Obviously that's an environment where product businesses, our product businesses and those of our peers and competitors are down 15-20 percent plus versus last year.

So good relative performance there by GMS, specifically and importantly that the parts of GMS that are not tied to product sales. The higher value services and solutions type offerings about which we've been talking to you were up significantly greater than the low less single digits. So we're real pleased with that performance. That team there continues to make a lot of progress, hiring a lot of good talent, obtaining a lot of good compitencies with that talent and engaging customers in important dialogue, so good progress continuing in GMS.

Other important initiatives that we've talked to you about in the past, obviously logics, to which Tom referred. This is our next generation control architecture. Being received extremely well in the marketplace. Really convinced both in terms of what we've observed in talking to customers, peers, industry experts that this is now the leading next generation control architecture in the marketplace, bar none. Up about 20 percent versus the comparable period of last year. Real good performance here.

And then Tom touched on Process almost doubling in sales versus the comparable period of last year. This is a real important initiative for us as many of you know. Given that Rockwell, historically anyway, hasn't been a leader, had not been a leader rather, in the Process space as we have been in the discrete space. So this opens up a whole new range of markets for us, and we're real pleased by the performance here. Frankly we bolstered this business towards the end of the quarter by closing on an acquisition of a company called Propack Data, it's a German company. And I'll talk about Propack and a few of the other acquisitions in a moment.

Couple comments as a, just building upon what Tom said on the Balance Sheet and Cash Flow. If you've had a chance to poke through the Cash Flow Statement, you've noted that free cash flow for the year to date period is a little over $100 million, that's from continuing operations. I'll get to the discontinued operation in a moment. Frankly that performance is a little bit better than we have been expecting. You'll note that our rate of capital expenditures is up a little bit sequentially this quarter over the first. We had been expecting that and predicting that. We told you about that. That we're still on plan for our cap-ex budget for the year, maybe even running a little bit below that for the year.

The other major item that we did talk about in our earnings release was this voluntary contribution that we made to our qualified US pension trust. It was a $24 million contribution. Let me just touch on it quickly so you'll understand what it was.

This goes back to the spin-off agreements when we spun off . As part of those agreements, both companies, our company and Rockwell agreed to make voluntary contributions to true up each companies qualified US pension trust to a full level of PBGC funding.

I want to stress it was a voluntary contribution. We were already, both companies were already as you know, over funded on a ABL basis, but we felt like this was the right thing to do. And we after doing all the actuarial analysis and such since the spin-off, we made that contribution here in this last quarter.

Turn to the balance sheet. As Tom noted cash is up a little bit quarter over quarter. Debt is also up, short-term debt is up about $90 million. Principally three factors there, first is the obviously the pension contribution about which I just spoke. Second, couple acquisitions we closed on and I will get to those in a minute. And third is this payment that we made in relation to so-called discontinued operations. Let me just make sure everybody understands what that was.

You see it reflected on both the cash flow statement and the preliminary sales and earnings information. This relates to the sell of our aerospace and defense business to Boeing, going back seven years ago, 1995 we closed on that sale. In that series of documents that define that transaction, Rockwell and Boeing at the time agreed to share the costs related to ones specific military contract that Boeing was assuming as part of that whole transaction. And the deal was that we would share the costs at a specific point in time.

Well that point in time has now crossed. We've added up all the numbers and done all the analysis that the documents required. And that process resulted in the payment that you see reflected on the Cash Flow Statement as cash used by discontinued operations. You note that there was a little bit of income also on the Income Statement. That related to the same matter.

As you would suspect, at the time we sold the business to Boeing, we made a reserve on our balance sheet that reflected our expectation of the amount that we would settle with Boeing for. Ended up coming in at the end of the day a little bit better for us than that settlement. So you see that reflected in the income statement as a little bit of, obviously non-cash income for the discontinued operations.

Couple other unusual items just to get through, FAS 142 I thought Tom covered well. We talked to you about that in detail last quarter. As you recall we had predicted that we'd have an impairment in our goodwill in one of our reporting units in our Power Systems segment, that's been reflected. We guessed at the time that it would be somewhat under $100 million. You saw the $73 million incremental charge that's what it is. That puts FAS 142 behind us for this year. Obviously as everyone is aware the accounting standard requires companies to do the same analysis every year and we'll do ours again next year. But that obviously puts this behind us for this year.

Other item, just to stress again the tax credit, Tom too you through it. And $18 million after tax credit, about 10 cents a share that totes up to be. This reflects our settlements with the IRS on most of our remaining items coming out of their normal audit of our past fiscal years. They're just finishing up fiscals '95 through '97 right now.

Tom also said our rate for this year, our effective tax rate exclusive of this credit remains at 27 percent. That's the rate we've been predicting for some time. It's still a good rate to use for the rest of the year. Obviously it's a very attractive rate, resulted from a lot of good tax planning work done at Rockwell here over the years.

I'd note that as we go forward and start thinking about fiscal '03 and '04, we're obviously in the middle of planning for those years now, planning our whole business but including our tax rate. That's going to be a tough rate for us to continue to hold here for the next couple of years. And while we don't have anything definitive yet, I could see us once we do get our plans finalized, I could see that tax rate increasing a couple of percentage points here as we go into fiscal '03 and '04. We're obviously continuing to work real hard on tax planning initiatives.

Quickly acquisitions I said I'd cover. We talked a little bit about Propack that's a real exciting one for this company. If you've followed it when we made the acquisition and then closed it, signed it and then closed it. It's a German company, software and services, leader in the pharmaceutical area. Almost all of the global pharmaceutical manufacturers are customers of this company. It's a real critical competency for these companies. It not only helps them manufacture more efficiently, but the real important thing here is it helps these guys get their products to market in a much more efficient time. As you are well aware, given their patent life cycles, that's critical for them. It's a critical, critical compliance tracking and other related item competency that is going to do great things for us in terms of expanding our business in the Pharmaceutical area. Both in terms of the Propack products software and services and our traditional products, and we're real excited about that.

Another small acquisition we closed during the quarter a German company called Tesch, a nice little product tuck-in in our suite of safety products and services.

And last but not least, you saw last week we signed an agreement with Samsung to buy their controller business. We'll be talking to you a lot more about that as we go through this quarter and close on that acquisition, which will be later this quarter. It's going to be a neat one for us, not only obviously gives us a much broader footprint in Korea and the broader Asia Pacific market. But frankly it brings some great manufacturing and product design competencies to our company that frankly we'll be able to use in our product suite throughout the world. So we're real excited about that one as well.

Finishing up here on our expectations for the quarter and then we'll have plenty of time to take your questions obviously. No great surprise to anybody on the phone here, we continue to see a lot of uncertainty out there. I want to expound on that because you're as fassle with what's going on out there as we are.

Frankly we've seen a lot of positive signs in our business and markets. Not only those we've talked with you about, but as we look at some of our end-markets, production increases, some customers in some important end-markets cautiously starting to spend on some new product and platform programs again. Some real good signs out there. Again, helps to convince us that we are past the bottom, we're above the bottom. The only question at this point obviously is the pace and velocity with which this thing comes back here over the next couple of quarters.

For those reasons we're obviously continuing to manage this business extremely tightly and we're going to continue to do that for the foreseeable future, as you would expect us to do. Also for that reason, our expectations for this quarter, as we said in the earnings release, are for modest sequential growth like we had Q2 over Q1. And you saw our range of EPS guidance in the earnings release, 25 to 27 cents a diluted share.

Lastly I would simply remind you what we've noted before is that obviously the business remains very leveraged to change in volumes here going forward.

And with that Tom, I think I'll sign off and we'll take questions.

Okay Mike, thanks.

Operator we're going to open the lines up for questions now please. And I'd just like to remind everybody to try and limit their questions to a couple of related questions at a time and if you something else to ask you can get back in the que.

Thank you sir.

If you'd like to ask a question on today's call you may do so by pressing star-one on your touch-tone telephone. Again that is star-one to ask a question.

We'll take our first question from Mark with Midwest Research.

Hi, it Mark Coseneric at Midwest. Mike and Tom wondering if you guys can talk a little bit about the bookings trends in the quarter and what markets are starting to perhaps look a little bit better? You know kind of characterize the end markets for us?

Sure Mark, absolutely. Bookings trends were not dissimilar from the shipment or sales trends, it was about the same. As you know, in most of our business other than the Systems part of the business and obviously services, this is pretty short cycle stuff. So order comes in and it generally gets shipped, if not the same or week, certainly the same month. Obviously we do have some longer cycle stuff. But I would say the orders trends this quarter were generally equal to the shipment trends.

In terms of end markets, I eluded to production increases and some program spending. You probably suspected that I was referring to the automotive market, and I was. You've seen the Big Three's production schedules as they've changed them here going forward, all to the positive. And we are seeing some programs there start to head.

In terms of other end markets Mark, oil and gas continues to improve nicely for us and continues to be a good business for us. As you know it's not a large part of our end market base, but a growing and good one for us.

Other than that, the only ones I'd really note that have had much change since we talked with you last time probably would talk about the pharmaceutical market. Where both the market itself and our involvement in it, those trends have been going well for us over the last couple of months.

The only one frankly that there's much change in at all, that we've seen some good, positive momentum in the last couple of months in terms of, and this perhaps gets to your incoming orders questions. Frankly the semiconductor market where our orders already been took up here nicely over the last two, maybe even three months.

Interesting. Follow up here on some specific product categories you mentioned of course GMS and Logics up you know in the face of down sales, but I note that the prior quarter the rate of year over year growth was higher than what we saw in this quarter. Looks like there was some deceleration, what was that all about?

Mark in terms of Logics I think that business will continue to show very good growth. But at some point here, that business is, as we've said, that's our new control architecture. And while it's obviously has a great acceptance rate today, the growth rate of that business ought to decelerate over time.

Secondly, on GMS that was nothing other than frankly the economic environment number one. And number two I would say some of the sequential growth, or pardon me that's wrong, the year over year growth that we had last quarter to which you correctly referred as we got some of those businesses launched and off the ground. There's no real trends in that business.

We do expect that business to have a nice growth premium to our product sales businesses. And as I said you know product, most of our product categories were off, well company sales as a whole were off 15 to 20 percent, 16, 17 percent. Control Systems, that business was up a smidgen, so we still think we're doing okay there.

So Logics, even thought that was up 36 percent last quarter and now 21 percent, you're not too concerned about that swing.

No Mark again, because every quarter the base of that business is going to build. And therefore the quarter over quarter, or current period over last years period growth rates are going to decrease naturally.

Okay, thanks very much.

Thanks Mark.

We'll take our next question from John with UBS .

Mike could you talk somewhat about the pricing environment overall. I mean I was looking and it seems like roughly your end markets have a utilization somewhere between 70 and 75 percent. And I was wondering, it seems like you're talking positive about some order trends. So, is pricing getting better, or -- ?

No. Sorry to cut you off John.

That's okay.

No, pricing continues to be -- This is something that, I say this every time I get asked but it really is the truth. We watch pricing about as closely as we watch anything else. Given the kind of unit volumes we're selling in our standard product areas, it's tremendously important to us. And as we went into the downturn, as we came through it, and now as we're coming out of it, pricing has held up relatively well. As we said, during the worst part of the downturn, in terms of an aggregate effect on all our sales in our product categories it could have been off at any given time in that kind of 50 basis points, maybe even as much as one percentage point rate. We put in our normal price increase John in November of this year. And we've gotten a little bit of that. So I'd say pricing in the second quarter probably sequentially flat to maybe up a smid, but if it was up it was certainly under 50 basis points.

Do you think the 70 - 75 estimate that we have, does that seem consistent with what your seeing from your end?

It's low for some of the markets John. But when you add in on a weighted average basis -

Right.

I think that's a pretty darn good estimate.

Okay.

Yeah.

Alright, thanks.

You bet.

We'll take our next question from Nicole Peraunk with Banc of America.

Morning guys.

Hi Nicole.

Could you just elaborate a little bit more? You gave us the sequential declines or increases by geography, but I'm just wondering if I look sequentially? The sequential numbers you guys gave us last quarter Europe was down 11 percent, and now I think you're saying it's up two percent. Can you give us the year over year comparisons and just elaborate on kind of generic geographic trends?

Absolutely, just let me correct one thing and then I'll answer your question Nicole. Europe was up this quarter sequentially. You're right about the decline last quarter. This quarter it was up nine percent on a local currency basis sequentially. After a little bit of negative translation it actually translated to up six percent on an as reported US gap basis.

To answer your question versus the comparable period of last year, North America continues to run in the 17 to 20 percent, 18 percent to be precise, down versus last year. Europe is down a little over 10 percent versus last year, and that's down a gap as reported basis. Asia down high single digits, for a total decrease -- And by the way, these are all Control Systems numbers now. The sales for Power Systems are deminimous, very small sales outside the United States, as you guys know, for Dodge and Reliance.

Does that answer the question?

Yeah, I guess generically in which of the businesses are you starting to see improvement, particularly in Europe?

Europe, really across the board, standard products and our control architecture business. I'd probably put the control architecture, POC logics, that kind of stuff before some of the standard mechanical type, electro mechanical type products. Strongest has been GMS in Europe.

And I guess with Global Manufacturing Solutions sales are up. Could you talk a little bit about you know direct sales versus you know I guess disermitiating the distribution channel?

That's a good question. Frankly most of, let me segment GMS out there into a bunch of different categories. In our software area obviously a lot of those products continue to go through distribution, always have, will continue to be. Those are largely to use an overused phrase, you know shrink-wrapped kind of software products. Those are the kind of things Nicole that I was referring to that go by the way of the product sales. So it's programming software for Logics and TLC's and things like that.

In terms of the direct sales to which you're referring, things like our large asset management contract, things like that, those are the areas that are growing a lot faster than the weighted average two- percent year over year growth in GMS. So, if that's what you're getting at, it's that kind of thing that we sell in a more direct basis that are growing faster than the other things.

Okay, and I guess one last question. Just on EPS guidance for the full year you only guided to the third quarter, obviously numbers are going higher. You beat consensus by on an ongoing basis three cents. Could you just give us any clarity on the full year as you see sales progressing out and also on free cash flow?

Yeah Nicole, well I do it in the order that you asked it. We're not going to put out any fourth quarter estimates at this point. We have said here, and we're not trying to be evasive or anything, what we're trying to be is as honest as we can and as consistent as we can. And we said here for several quarters that as soon as we see a definable trend that will help us call something more than a quarter out, we'll say it. And we will say it but we just haven't seen it yet.

In terms of cash flow, same thing obviously. But I will continue to say that you know cash flow for the year, free cash flow obviously, is going to be at least equal to, if not greater than net income. And we're pushing the business hard in that direction and we will get that kind of level of cash flow.

Great. Nice quarter. That's it.

We'll take our next question from Bob with Lehman Brothers.

Hi guys. A couple of questions, you mentioned the new logics architecture a couple of times, but I didn't hear you say what actually the arrangement was with Honeywell the old Planscape, is that expired? And you know I guess what of the new architecture is a derivative of what you're doing with Honeywell? And is Honeywell still accessing you know the control net and the IO capability for Planscape?

Good question. Let me say first and foremost that the Honeywell participation or contribution of the control architecture, the new logics architecture, only relates to the process logics side of it. So, pardon me, in terms of the bread and butter of our business in the discrete and motion and (dries) areas, Honeywell never had and continues to have nothing to do their technology with those areas.

As it relates to your question Bob, we're currently talking with them about what the future of that relationship is going to be. It's up in the air right now. As you well know there's been a lot of change at Honeywell both at the senior corporate levels, but more importantly at the leadership levels of their automation business that has direct participation here. So frankly at this point I don't know, and we don't know what the future of that relationship is going to be. But again, I'll stress it only relates to our process logics architecture. In terms of their ability to use our IO and other stuff, again that will come out of how these discussions resolve themselves. And we're hoping that they resolve themselves sometime here in the next couple of months.

Now does that mean you're still using the machine interface and the process software that Honeywell was providing on Planscape in your new architecture?

On the process logics side sure.

Okay one other question actually that encourage me, I mean you beat the operating profit margin I expected in control and that. But I was wondering are you benefiting, as some of the companies has seen these big sales declines as you have, I mean and often you're running the plants at below you know your sales level because you're running down internal inventories. And you know as a result as those inventories start to stabilize and move up you get you know an improvement in gross profit margin by virtue of better capacity utilization. And you know if we see sales going up, are we going to see gross profit margins improve you know even from that? so I guess my first question was, was the upside surprise in margin this quarter a function of internal inventory normalization in the accompanying improvement in gross profit from improved plant capacity utilization?

Great question. Let me answer the question and then touch on the root of, on what I think the root of your question is in a couple of different ways.

First, inventories came down this quarter. They were down from December, very modestly five six million bucks, but they did come down a little bit. But Bob, I think the point, which you are trying to get across, is well taken. Obviously we took it on the chin here as despite the fact that we took costs out of the plants, we continued to run bad variances and we did that knowingly. At some point here you are either going to continue to run a plant, or you're not. We did take some plants out. But at the sales levels that we had the margins did come down and part of that was because of ineffective capacity utilization. And we knew that and planned it, and specifically didn't run inventories up to compensate on the profit side.

As we go forward, and vines come back, we will absolutely get a double whammy, I guess that's a technical term, impact as these plants continue to run, or start to run faster. We think we've got a ways to go in terms of the capacity we have in place right now, defined as either hourly personnel in the plants and all of the indirect stuff that goes around that. We got a ways to go.

So for a while here, as you noted Bob, the margins were a bit higher than one would expect given the volume increase, the conversion on the sales, however one wants to look at it, and we're going to run the business like that for a while here. As you know we, you know our profits fell pretty fast when sales dropped last year and we've got a lot of room to go. We're investing in the business at the same time, especially on the GMS side and in some other places. But we would expect to see going forward, and we're running the business hard to produce that.

Well I just to clear one point, do you say you were running adverse variances in this quarter, or you were out from under the adverse variances in current quarter.

I would say, good, thanks for the clarification.

Prior to this quarter, so through the first quarter of '02, we were running negative variances. This quarter its just about back to sea level.

Great, that's what I thought. Thank you.

Thank you.

We'll take our next question from Martin with Goldman Sachs.

Hi. Looking ahead in your outlook for sequential sales improvement over the next quarter or two, how much of it is the result of the Propack, Samsung and other acquisitions versus real organic improvement in the business?

Good question. Very small. Number one, pardon me, Samsung won't close until the end of the quarter. Tesch is a very small acquisition. And Propack, despite the fact that the acquisition price was you know amongst the bigger ones that we've done on the automation side of the business for some time, the sales are not very big. You're talking about you know a couple million dollars a quarter, so most of it's organic.

Okay, and a detail question. In the quarter you transferred a business out of Control Systems into, and that an eight, nine million quarter impact, no profit, what is it?

Yeah, good question and we alluded to it in the notes on the financial statements. This is a small business, it's the Reliance, pardon me yes, the Reliance Drives business. Which it's a standard drive business which we had here to for been managing under Control Systems along with our bigger standard drives business, that obviously is the Allen Bradley brand. We made the decision that given that almost all of those drives are ordered as a package, along with our reliance motors, at the best management team to manage that business going forward were the folks at Power Systems. So it's just a trench for Martin as you correctly state, it's between 30 and 35 million bucks a year from Control to Power. And obviously no net profit impact on the company.

Okay.

Except internal score keeping.

Okay and that's both at the segment OP level as well as the -- ?

Yes, good question thanks. It's about 30 to 35 million on a run rate sales, and about just a couple million dollars in profit. Say $2 million of profit that went from Control to Power.

Okay, thanks.

Thanks.

We'll take our next question from Jeff Spraig with Salomon Smith Barney.

Hi good morning. Most of mine have been hit but just a couple of follow ups maybe. As far as the Process business Mike, can you give us a little color on how large it is now? And just explain how you would be defining it, you know with or without Propack, with or without you know whatever collaboration you have left with the Honeywell technology?

Yeah, absolutely Jeff. We are defining it right now without Propack. We've obviously built Propack into our outlook for the rest of the year, but the way we think about the business, obviously here to date, since we just closed it here a couple days before, about a week before the quarter ended is without Propack. Right now it's running at the run rate above $50 million, it's in the sixtyish million, seventy million-dollar year to date kind of numbers. Enjoying the kind of growth rates that we talked about. And I'm sorry Jeff, what was the last part of your question?

Well that was actually -- . So is the $60 to 70 million an annual run rate or that's what you did in the first half?

No annual run rate based on what we did in the first half.

Okay, and that includes you know, I don't know if we're calling it Plantscape anymore, but collaborative activities with Honeywell?

Yes it does Jeff.

Great, and just a clarification on the impairment items. The trademark impairment, what precisely was that again?

Sure, let me cover that I kind of skipped over it this time. That was one that we did record in the first quarter. That had to do with impairment of the trademark in our reliance brand. As you know the standard makes you look at not only goodwill, but other intangibles as well. Other indefinite life, I should say, intangibles as well.

The charge that we finally reflected in the second quarter, and you know the way the standard makes you do it, you got to push it back to the first quarter and reflect it as a change in accounting principle. The second quarter thing had to do with impairment in the goodwill in the mechanical reporting units, so Dodge that you think of. And again in line with what our expectations were.

Okay, so there's not impairment technically in the motors business itself, just on the Reliance trademark?

Well the answer to your question is yes. Unfortunately one of the reasons for that is that as you recall we wrote off the motors goodwill in a series of actions back in 1998.

Okay.

So by definition you know there's nothing there to test.

spraig. Okay, very good thank you.

Thanks Jeff.

We'll take our next question from Richard Eastman with Robert W. Baird.

Just a quick question on the GMS business. In this quarter there were, I think you had mentioned there were 14 MRO contracts put in place. I think the first quarter the number was more like four. Does the revenue scale up at the same rate as the number of contracts?

That's a good question Richard. It doesn't, it scales up over time. Because those, most of those if not multi-year, they're one year contracts. A lot of them are multi-year contracts. So it's a kind of waterfall effect, if you will. As contracts get added, they're nice contracts obviously because you put them in place and as long as you perform for the customer they stay in place and you continue to book revenues on them. And obviously you have the embedded position in the customer's plants, where you can hopefully sell some products along the way as well, and some more services. So it is a gradual, call it waterfall effect, as those things build up.

As we roll forward into Q3, and especially Q4, if I recall the GMS business began to flatten out there. Do these contracts, these 18 MRO contracts and again maybe the process solution side of the business coming on, does it suggest to give you some pretty decent visibility on GMS's growth rate accelerating?

Yeah absolutely. I mean part of the GMS anchor, if you will, that I eluded to in response to another question is a decent part of GMS as it's currently configured are things that get sold that are directly related to product sales. Whether it's just kind of MRO activities for customers that stuff brakes, or again the example I used which is I think an easy one to understand is software that gets sold when we sell a controller or a logics package. That stuff obviously has been a drag here on a year over year period as product sales continue to lag. Those comparison as we head into the, Rick to your question, as we head into the third and fourth quarters, will get a lot easier here. And we would expect those businesses to stop being such and anchor. So yes, the non-product type stuff add to our confidence. As well as the you know the easier comparisons, that's what it is on the product-related stuff.

I think this question has come up in the past, but you've not wanted to relate the GMS business necessarily to you know industrial IT spending, or just you know just IT spending in general. Is your perspective on that softened at all, or is it just a coincidence of what we're seeing in the marketplace now?

We believe it's, if you want to look at it that way Rick, it's really a coincidence. It's really a dissimilar type of spending than a customer makes versus some kind of IT solution whether it's ERP or something like that. Some of it is tied in some ways, but a lot of it has to do again with a customer's manufacturing productivity and efficiency. The example I gave on the Propack stuff about getting their pharmaceuticals, their drugs to market faster. So I can't say it totally disassociated, that would be silly, but it's really a different point of decision for a customer in many respects, in most respects.

Okay, very good, thank you.

We'll take our next question from Chuck Harris with Salomon Brothers.

Morning. Question on sort of the sequential revenue comparison, I can't quite figure out how whether they're telling us what we want to see. Which is, isn't there some seasonality Q2 versus Q1 where we would normally see a little bit of a pick up in business anyway? So when we look at sequential Q2 versus Q1, I don't know whether we need to boil it down to a day rate basis or a seasonal adjustment basis, can you give a little bit of guidance on that?

It's a, sure. There's factors like that quarter over quarter. We had factors like that last year, we have factors like that every year.

Right.

It's hard to, and obviously we take that in to account, it might have provided a little bit this quarter. But I'll tell you, we've looked at this hard in the past and it's very difficult to predict the business on that basis or not. People just, distributors just, and customer's just don't order that way frankly. So you can try to discern all sorts of trends, but the data, looking at it over it at a long period of time just don't tote up that way.

So you're sitting there saying Q2 versus Q1 you know everything else being equal isn't a bad way of just looking at it -- ?

No it's not.

harris.: Okay, terrific. Thank you.

You bet.

We'll take our next question from Berry Hanes with Sage Asset Management.

Hi good morning, great quarter. As you kind of went through the quarter I wonder if you could kind of characterize how March felt to you as compared with January and February? And what you're seeing so far in April? And then second question was, and you may have mentioned this and I missed it when you were going through end markets, if you could just talk about what you're seeing out of the automotive end market? Thanks.

Sure, yeah very good question. March was stronger than January and February. As I said, we've been expecting you know we thought Q1 would be the bottom and we really didn't know when things would pick up. And frankly January and February were kind of you know flatish with what we were expecting, and then things did pick up in March. And things have about continued with that in April. No discernable difference up or down.

In answer to your second question about automotive, that business is, while not a lot of it happened in terms of revenues getting booked in the quarter we just completed, that business has cautiously picked up a little bit. You've seen the production rates from the big three and the so-called foreign transplants and their overseas operations. And some of these programs, you know their new platforms the big three and the foreign transplants that they've been talking about for a long time, they've had them on the dockets for a long time, they've been deferring them for a long time. A couple of those here have it.

Now as I said, not a lot of those sales got reflected in Q2, but we're looking forward to enjoying those in Q3 and going forward. So again, we're cautious on it, real cautious on this end market in particular, but we feel a lot better about it than we did 30 or 60 days ago.

Great, thanks very much.

Sure.

We'll take our next question from David Peisamenty with Lazars Asset Management.

How you doing Mike?

Hi David.

Quick question on your safety business. I was wondering how big a business is that for you now and what type of core growth are you seeing there?

Yeah sure. Safety is slightly smaller than process, so it's in the 50 maybe a little bit David smaller kind of range. Real good growth, I'd say low double digit kind of growth. As you remember we really, we had a bunch of products that sold into safety type applications that historically. But we really built this business when we bought a UK company called EJA Engineering, Tom three years ago, two years ago?

1999 yeah.

Boy three years ago almost. And we've been, we've done a couple of things, we've augmented it with a little acquisition that I just talked about called Tesch. Importantly, we introduced all those products, the EJA products into the Allen Bradley channel over the last couple of years, which has been extremely successful. There, those products are built perfectly for our channel.

And thirdly, I'd say as we've talked about in the past, the safety codes that really gave rise to companies like EJA commenced in Europe. And all those codes really got driven in Europe. Some of that is starting to transfer to the US as well. And we're looking forward to either a regulatory environment, or frankly more importantly a union and just work rules environment that are going to make the safety business very attractive going forward.

Great, thank you.

Sure.

We'll take our next question from Michael Reagan with Credit Suisse First Boston.

Thanks. Mike the margin performance at Control Systems obviously very, very impressive. And I was just wondering if you could dig in a little bit and give us some sense of whether or not there was any geographic mix or business mix that contributed to the sequential improvement.

Sure Michael.

Performance relative to expectations.

Sure Michael. Good question. It really was across the board. As I said, pardon me, the sequential sales growth came best in the US and Europe. And obviously the US, as you know, our margins are slightly better than other regions of the world, not appreciably so, but a couple of percentage points better so that had a tiny little bit to do with it.

From a product standpoint, really the increases were across the board. Good increases in some of the higher margin products absolutely. But also good increases in some of the you know lower and middle margin products. So simply put, it was really across the board. Geographic mix to which you referred was real good in North America.

Can you give any sense of census reduction sequentially, or whether or not there was a facility that closed, I mean -

I'm sorry to cut you off Michael, go ahead.

No again, I was just going to say you know the leverage on the sequential improvement of sales is so substantial, I'm just you know trying to understand what the pieces are.

No. You know the restructuring actions that we've been saying for some time were complete last year. The incremental benefits in terms of people leaving the company were really done in the November, maybe a little bit bleeding over into December. But certainly by the end of the first quarter all that activity was done and plant closings as well. So this really Michael was reflective of you know the upside, the leverage that this business has. You saw it on the downside, we saw it on the downside. And we're going to get it on the upside as well. And we're going to drive the business hard to produce it. We're real serious about that.

Great. And then just on tax rate brought up the issue that the current level is going to be hard to hold and it should go up a couple of points over the next couple years, can you clarify that a little more?

Sure Michael absolutely. And again we're working real hard to keep it where it is, but you know gravity is against you in this kind of thing. Eventually everything gravitates toward the statutory rate. We got a lot of things, good prudent things in progress. But if I were planning now, I would plan for a couple hundred basis point increase for '03. So something in the thirtyish percent range is probably a pretty good number sitting where we are sitting today.

Okay, and then finally again on taxes, the $18 million benefit from taxes, while backed out of the 21 cent number, is it correct it is included, that $18 million benefit is included in cash flow from operations and free cash flow?

Yeah, let me address that. Back out of the 31 percent -

Sorry, 31 -

Yeah, okay. There was really very little cash flow impact to that number. If you recall back in our fourth fiscal quarter of last year we made a pretty significant tax payment that we thought reflected most of what we would owe the IRS based on this audit cycle settlement. It was 50 million bucks that we talked about, it was fourth quarter. And we thought that there would be, obviously given the numbers, and additional $18 million that we would need to pay the IRS this quarter to reflect the settlement. Well we settled for $18 million less than that. So it turns out that the advance payment we made to them turned out to be the whole settlement. So there's no cash impact this quarter to the plus or to the minus of that settlement. It's just a reduction of the reserve that we had to reflect that settlement.

Got you. That's great, thanks.

Thanks Mike.

We'll take our next question from Chris Walters with First Manhattan.

Hi.

Hi Chris.

How are you doing? I was wondering if you could comment, are there going to be any more potential payments to Boeing, or does this absolutely settle all outstanding issues there?

This was it. And as I said it took seven years to get there, mostly based on just when the terms of our deal with Boeing said that you looked at that one specific contract and toted up what the sharing was. But the answer to your question is nothing.

Okay. And they've agreed to the payment so it's -- ?

It's a signed settlement. We would not have made the payment to them until they signed to the dotted line saying that they agreed with the calculations.

Okay. And I think that earlier Don Davis has indicated that he expected free cash flow in fiscal '02 here to be better than what was accomplished in fiscal '01 of $178 million.

I think that's still a good estimate Chris. I think that's still a good estimate.

Okay.

I don't want to get more precise than that -

Yeah, fair enough. That's okay.

But I think Don's comment that you're remembering is still a pretty darn good estimate.

And did you incur any cash restructuring costs here in fiscal Q2?

Yes, we continue to, though I said that the actions were completed and the people were out the door by severance arrangements and things like that, we continue to dribble cash out the door to reflect those agreements. But it wasn't much, you know a million bucks or two, maybe three. But nothing material.

okay. And can you comment a little bit on what kind of multiples you're paying for these acquisitions?

Oh boy. Two very, well three really different acquisitions here. Tesch, a products kind of business, you know what those businesses sell for. Certainly you know in the one times or under one times sales kind of multiple range.

On Propack software and services very fast growth. That company's been growing 30 to 40 percent a year for the past boy eight, nine, ten years that we looked at. So that multiple as you would suspect is higher, a good bit higher.

Three times sales?

Approaching that, not quite.

On Samsung, back to the one times or under sales kind of multiple. That's a business that's going to do a lot more for us than just a bunch of sales in Korea, although that's important to us. As the world gets more and more miniature in terms of electronics, it's going to really drive some great things in our core product suite for the whole world and our more high tech electronic products; controllers, PLCs and whatnot going forward. So we're getting a lot there other than just the sales we're acquiring.

And is there like some modest solution of the consequences, or these are creative.

I'd say in the first year it's about at sea level. They're not accretive, but taken as a whole they're within a penny either way.

Okay, and can you just kind of give a little bit better clarity on what you see for cap ex here in fiscal '02, relative to DNA?

Yeah sure. You know year-to-date, if you've had a chance to poke through the cash flow statement I think we're at 47 is it, year-to-date?

Yeah that's correct.

47. We set our budget for the year as 125 or under, and that's still a good number. We're watching this real close and kind of dribbling it out as business gets better and so that's still a real good number. As you know fixed asset depreciation, forgetting about the small amount of intangibles amortization that we have left, is a good sight higher than that. It's going, I'd say 180ish kind of range for this year.

Okay. Alright and does that amortization of intangibles pick up at all with these acquisitions or is it still --?

Just a little bit. Good question. It will pick up a little bit, but not a million bucks or two per quarter, it will.

Okay, terrific. Thanks a lot.

Operator I think we have one more questioner on the line.

Yes sir. We'll take a follow-up question from Mark Coseneric with Midwest Research.

Just a couple of odds and ends here. Did I hear that order and shares were 184.9, they were down four million from the average?

Outstanding shares, 184.9 I believe, yes.

Quarter end, hang on Mark. That's a good question. You stumped us, we're just checking.

I'm just wondering if you bought back a lot of shares or was and the other diluted?

We bought back no stock in the quarter. We've been out of the market since December of calendar 2000. And until things improve here we're, we have been and remain out of the market.

Outstanding shares are 184.9, outstanding.

That must be basic then right?

That does mean basic.

Oh I'm sorry Mark, now I get your questions. Yes, those are primary, not primary, basic shares.

Yeah okay, good.

And then just quick follow up on some of these market related things. Automotive with the pick up, before we went in to the down turn you had been making some progress on really picking up some good content on automotive. You had been bragging about, I think it was a Chrysler contract, where you had some unusually high content. And I'm wondering if some of these new programs are large content ones, or are they kind of more modest in scope?

The one that I was referring to that actually did get let out this quarter was a 100 percent win for us. We swept it in all of the products areas that obviously we, that are relevant for us. So our content on that one was very, very good. And that's the only one I can address, because that's the only one that's a fact right now.

No that's great. Okay and then semiconductor with the pickup, would that be more on the assembly side, or is that actually with the of the world and people like that?

Yeah, you hit, in fact if I had to choose one customer that's really turned up their sales volumes to us, Applied is the one, a couple others as well. But it's right in that space you're talking about Mark.

Okay great. Thanks very much.

You bet.

Okay operator I think that concludes the questioners, so we'd like to terminate the call at this time.

I want to thank everyone for joining us today. And if you need any further information, give us a call.

Yes that concludes today's conference call. At this time you may disconnect.