洛克威爾自動化 (ROK) 2011 Q2 法說會逐字稿

Thank you for holding and welcome to 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 up the lines for questions. (Operator Instructions) At this time I would like to turn the call over to Rondi Rohr-Dralle, Vice President of Investor Relations. Ms. Rohr-Dralle, please go ahead.

Thanks, operator. Good morning to everyone. Thank you for joining us for Rockwell Automation's second-quarter fiscal 2011 earnings release conference call. Our results were released this morning and the press release and charts have been posted to our website at www.rockwellautomation.com. Please note that both the press release and charts include reconciliations to non-GAAP measures.

Additionally, a webcast of this call is accessible at that website and will be available for replay for the next 30 days.

With me today as always are Keith Nosbusch, our Chairman and CEO and Ted Crandall our Chief Financial Officer. Our agenda includes opening remarks by Keith that will include highlights on the Company's performance on the second-quarter and our updated outlook for the full fiscal year. Then Ted will provide more details around the second-quarter results and our revised guidance for fiscal 2011. We will take questions at the end of Ted's remarks and so we want to get to as many of you as possible, please limit yourself to one or two questions, please.

We expect the call today to take about an hour and as is always the case on these calls, I need to remind you that our comments will include statements related to the expected future results of the Company and are therefore forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Our actual results may differ materially from our forecasted projections due to a wide range of risks and uncertainties that are described in our earnings release and detailed in all of our SEC filings. Before we get started I just want to point out that we have added a new slide at the beginning of our deck that contains highlights for the quarter, so I'd ask you to please turn to slide 4 and then I will hand the call over to Keith.

Thanks, Rondi. Good morning, everyone, and thank you for joining us on the call today. I appreciate your time and interest in Rockwell Automation. As Rondi mentioned our first slide captures the key messages from the quarter so I will touch on these during my remarks. We started the fiscal year with a very strong Q1 and that momentum continued in the second quarter with sales growth of 26%.

I was very pleased again this quarter with our broad based revenue growth. We had strong growth in every region and in both our products and solutions and services businesses. Operating margin has continued to expand and earnings per share from continuing operations of $1.14 was a record quarterly high for the Company. We had a very strong cash flow quarter, return on invested capital at 27.5% was a record high for the Company, above the peak of 26% in the last cycle.

So, at the midway point of the fiscal year, it's safe to say that we are executing extremely well and capitalizing on the strength of the industrial markets. I'm sure by now you have all seen the reported financial results, but let me give you some other highlights in the quarter. EMEA had its second consecutive quarter of 30% sales growth, overcoming some weakness in the Middle East and North Africa, due to the recent political turmoil.

We had several bright spots in emerging markets in Q2. China grew 36% and Latin America with 38% growth, had its fourth consecutive quarter of robust growth. Our OEM business was strong again this quarter. We continue to win machine conversions and to get more content on each machine. This quarter, we saw over 40% growth in our motion control business within architecture and software. This is a product line that is very important for OEM applications. All of this is evidence that our global organization continues to do a great job executing our targeted initiatives. Overall, another solid quarter and an excellent first half of the fiscal year.

As you will recall, we significantly raised our full-year revenue and earnings guidance in January. Some thought we were too aggressive. But, our Q2 revenue was in line with that guidance. But what is our current thinking?

The industrial sector has continued to demonstrate strength with growth in industrial production rates, some improvement in capacity utilization and continued strength in the PMI data. But, the past quarter has seen a good deal of change in the macro environment. And, that has created some new headwinds to the ongoing recovery. Commodity costs and oil prices are increasing. Rising inflation is leading to tightening monetary policies in some emerging and developed economies. These, along with the Japan earthquake and related supply-chain impacts, and unrest in the Middle East and North Africa, all create greater uncertainty to the business outlook.

Given our first-half performance, but taking into account the more uncertain macro environment, we are increasing our revenue outlook to a range of $5.7 billion to $5.8 billion with about half of the increase coming from currency. Based on this revenue outlook, and including additional headwinds from material cost inflation and higher oil prices, we are narrowing fiscal 2011 EPS guidance range to $4.40 to $4.60. Ted will go through the puts and takes in more detail, but I want to remind you that at the midpoint, this represents almost a 50% increase in earnings per share from 2010, and record earnings per share for the Company.

Before I close, I'd like to welcome the employees of Hiprom to Rockwell Automation. Hiprom is our newly acquired system integration business in South Africa. This group has great engineering expertise in mining and minerals processing applications. We are thrilled that we have improved our capabilities to serve the growing mining market of sub-Saharan Africa, and we intend to expand this expertise globally.

Let me close by saying how proud I am of the people and partners of Rockwell Automation. It is their dedication and expertise that continue to deliver these results and create new opportunities. They are an important aspect of our competitive differentiation. Our global team members, both those who touch the customer and those behind the scenes, are committed to winning and deepening our customer relationships and loyalty. And, that is what it takes to succeed. And that is why I am confident that we will continue to be successful and deliver superior returns to our share owners.

So with that, I will turn it over to Ted to provide more details on the financial results for the quarter, and our outlook for the remainder of fiscal 2011. Ted?

Thanks, Keith and good morning, everyone. I'll be starting with the Q2 results summary on page 5. Revenue in the quarter was $1.464 billion; that's up 26% compared to Q2 last year. The year-over-year impact of currency translation increased sales in the quarter by approximately 2 points. Segment operating earnings were $244 million, an increase of 38% compared to $177 million in Q2 last year.

General, corporate net was $20.5 million, compared to $23.6 million a year ago. The effective tax rate in the quarter was 18.3%; that's below our full-year guidance range. We've benefited in the quarter from some discrete items that lowered the rate by about 3 points.

Diluted earnings per share from continuing operations was $1.14, up 48% from $0.70 -- excuse me $0.77 in Q2 last year. Average diluted shares outstanding in the quarter was 146.3 million.

We repurchased approximately 700,000 shares in Q2 at a cost of about $58 million. Year-to-date, we've repurchased 1.4 million shares. Despite share repurchases, the average diluted share count is up about 1.9 million shares, year-over-year, primarily due to option exercises and the effect of a higher share price on the dilution calculation.

Turning now to page 6, the Q2 results for Rockwell Automation. As noted previously, sales for Q2 increased 26% year-over-year but also increased 7% sequentially. Q2 is our fourth consecutive quarter with year-over-year growth over 25%.

Moving to the earnings side of the chart, we are seeing steady improvement over the course of the past 4 quarters. Segment operating margin improved by 1.5 points, year-over-year to 16.7%. The year-over-year operating margin improvement reflects volume leverage, offset by spending, mix and higher than anticipated material costs and oil prices.

The mix effects included higher growth in our solutions and services businesses, and in our product businesses, and within the architecture and software segment, we experienced significantly higher growth in some of the lower margin product areas. That's consistent with Keith's comments regarding the very strong growth we experienced with OEM customers in the quarter, particularly with motion control products and especially in Europe. The year-over-year conversion margin was 22%, somewhat lower than we expected, primarily due to those same mix and material cost elements. Although currency was a tailwind to sales, it was a modest headwind, with respect to conversion margin.

As in prior years, conversion margin can be somewhat variable, quarter-to-quarter. Although it's not displayed on the chart, our trailing fourth-quarter return on invested capital was 27.5%; that's a record level for ROIC and up from 13.2%, in Q2 of last year.

Now, moving on to page 7, this slide summarizes the Q2 results of the architecture and software segment. Looking at the left side of this chart, year-over-year growth in the segment was 21% in Q2, currency effects increased sales by about 2 points. Looking at the chart, you can see the growth moderated somewhat sequentially and sequential growth was a little under 2%.

Operating margin for the quarter was 24.4%, up about 0.6 point compared to last year. Sequentially, operating margin decreased by about 0.5 point, primarily resulting from the mix change within the segment that I referred to on the previous chart.

The next slide, page 8, covers our controlled products and solutions segment. Sales in Q2 were $839.9 million, up 30% compared to last year, with 2 points of that increase due to currency effects. On a year-over-year basis, sales for the products portion of control products and solutions were up at about the same rate as the architecture and software segment with the solutions and services businesses increasing by 33%.

An unusually large project was completed and billed in the quarter that increased solutions and services sales by about $22 million. In total for the segment, sales increased 12% sequentially.

Moving to the right side of this chart, segment operating earnings increased 68% year-over-year, with a related 2.6 point improvement in operating margin. As you can see on the chart, there was a significant sequential increase in operating earnings that was driven primarily by the sequential sales increase.

Page 9 provides a geographic breakdown of our sales in the quarter. I'll focus my comments on the far right column, which excludes currency effects. A very good growth, pretty much across the board. EMEA was particularly strong with 30% growth as previously mentioned, very good performance in the quarter with OEM customers. Latin America had another very strong quarter at 38% and the US and Asia-Pacific both in the low 20% range.

Emerging markets continued to demonstrate growth above the Company average, and China was particularly strong at 36%, year-over-year growth.

I'll turn now to page 10, and the free cash flow. Free cash flow for the quarter was $226 million, which represents conversion on net income of about 136%. That's a very good result. Year-to-date, free cash flow is at $231 million; that's conversion of about 73%. We're below our targeted 100% conversion year-to-date. You may recall in Q1, we had a larger than normal payout of performance-based compensation that was earned and expensed in the last fiscal year. With the very good progress in Q2, we continue to expect free cash flow conversion of about 100% for the full year.

We're continuing to monitor the status of our pension plan funding, and if we choose to make a discretionary contribution this year, cash conversion could be lower than the 100%. During the quarter, we announced that we replaced our revolving credit facilities with a new, $750 million 4-year facility.

Previously, we had a 1-year facility expiring in March 2011 and a 3-year expiring in March 2012. The previous facilities totaled approximately $568 million. And, that takes us to the final slide which addresses our current outlook for fiscal '11. As Keith mentioned we've narrowed the guidance range. We've increased the range of full-year sales to $5.7 billion to $5.8 billion; that's a $100 million increase that's a new high end. About half of that increase is due to currency, and the balance reflects a somewhat higher expectation for organic growth.

For the full year, the revenue range now reflects growth of approximately 15% to 17% excluding currency effects. The previous range was 12% to 16%. For the full year, we now expect currency to contribute approximately 2 points to growth. Based on currency rates experienced in the second quarter, we've increased that by a little more than 1 point from our previous guidance.

We continue to expect segment margin to be about 17%. Our fiscal 2011 guidance for diluted earnings per share is now $4.40 to $4.60. Using the high end of the guidance range as an example, we added $100 million of sales that did not increase EPS guidance. The additional earnings contribution due to sales increases that are attributable to currency effects is not large; coupled with the contribution we expect from some additional organic growth; that favorable impact is being offset by some of the mix effects we experienced in Q2; added headwinds in the balance of the year related to material costs and oil price increases; and a moderate, negative impact on EPS calculation of higher share count.

A couple of other items related to the full-year guidance, we expect a full-year tax rate of 20% to 21% and we continue to expect general corporate net expense to be an expense of about $80 million for the full year. With that, I'll turn it over to Rondi and we will begin the Q&A.

Great, thanks, Ted. So operator, let's open the line for questions.

Bob Cornell, Barclays Capital.

A lot of ground to cover. You actually talked about the emerging headwinds and so forth and so on; I just wondered if you'd seen, in your inquiry level and your funnel level in your customer response if you've actually seen any change in customer behavior, any pullback, in anticipated business as a result of the various macro economic headwinds you talked about?

No, at this time, we have not seen any change in what our expectations were, you know as we talked about guidance last time where we expected an improvement in our solutions business in the second half of the year. We still expect that to happen. If you look at-- we did have some, some increase in our front log in the quarter and, a slight increase, mainly in solutions in our backlog in the quarter. So, and improvement in I'll say the large CapEx projects that are in that -- that are in the funnel if you will in North America, particularly as we exited the quarter.

So, that kind of goes back to the comment I made about the industrial metrics that we monitor, still have remained strong. So, at this point, we have not seen a reaction to the aspects of our core ordering.

What we have seen, I guess to maybe just put a little more color on it is, we have seen a slowdown and change in Middle East and North Africa. And, while that's not a large part of our business, there are some -- the work is just not being done there at the current time. And, that is impacting both ongoing projects and future projects. But it is a small enough number that we did not see a big impact in our performance or expect a big impact in our performance from that.

With respect to Japan, the impact there was not felt in the quarter at all. And in fact, Japan had a good quarter, which is a little, may seem a little strange, but we have not seen the impact there. The Japan situation is something that we are monitoring very, very closely. Because it's an impact, a potential impact to our supply chain, we do not believe there will be an impact to our supply chain in the third quarter. We have adequate stocks and inventories and the supply chain can support our third quarter.

We are very mindful and watching the fourth quarter and beyond. And in particular, our concern with respect to Japan and the supply chain is really the sub-tier suppliers to our component suppliers. There is some heavy concentration in some of the industries that support, particularly electronics. And, those sub-suppliers have been impacted. And, it's a question of when they can get their production lines running, when the environment there will stabilize, both in transportation and energy. And, will we be able to maintain an adequate supply or find adequate replacement that could impact at some point in our fourth quarter or more, probably, going into 2012. So, our concern in the macro area is really Middle East, North Africa and supply-chain of component suppliers from Japan, as we move into our fourth quarter.

Okay; one final question for me, you mentioned the adverse impact of material cost -- have you guys put through price increases that will offset that later in the year?

We've put through a price increase, Bob, in most of the world in November, last fall. I would say, for the full year this year, we were expecting price realization of something less than a point. Year-to-date we are running you know close to that, maybe a little bit less. But, we also expected for the full year that price would significantly offset material cost increases and that's where we're running somewhat behind. Through the first half, price cost is more of a headwind than we originally expected. Based on our current projections for the full year, we now expect material cost increases to significantly exceed what we get in pricing. But, we are right now, evaluating both the timing and magnitude of our next price increase.

Right. So if you were to implement a price increase, when would that impact and when will you be able to reflect that in the -- your -- at your sales?

I would not expect the benefit from any future price increases to materially affect this year.

Mark Douglass, Longbow Research.

Keith can you talk a little bit more about how logics did in the quarter and in particular, I'm curious you know what it's like as far as penetration into process and markets and then with the Plant PAX initiative?

Yes. Well, logics for the year was up, I'm sorry for the quarter, was up 21%, year over year, which is basically at the same growth rate as the A&S segment was. We continue to expect that we would see double digit growth from logics across all regions, for the remainder of year. And, if you look at the impact into our process area, we continue to make progress in expanding our logics platform in process. If we look at our process initiative, basically our products portion of that grew at about the same level as logics in the quarter.

And we've seen improvement and higher growth in particular in the emerging markets of Asia-Pacific and Latin America. Those were the strongest performers this past quarter. And, we continue to see progress being made in new application in the continuous process space. And those applications are areas that we can now address either because of the logics platform or our process safety platform that was part of our ICST acquisition. And being able to win Greenfield applications and Greenfield sites against what I would say are the more traditional DCS suppliers.

And then on the emerging markets, does that mix there tend to be more micro logics versus control logics?

No. No. And not in the process industry. In the process space it's definitely logics which is driving the growth in emerging markets. Where you have a capability of selling both the logics architecture or I'll call it, our standalone, machine-based solutions is really in the OEM market. And there, the emerging market OEMs are more heavily focused on both a compact logics or a micrologics solution, which is the reason we are coming out with the micro 800 family to be able to focus on the more component-centric buyer, standalone machine OEMs that we want to be able to address with a more aggressive, price-performance offering for the emerging market OEMs.

And, that's something that as the micro 800 matures and actually is introduced, will be able to help us penetrate more of that low end segment of the OEM space. And, that's where the difference is between emerging and mature markets. It's in that machine builder OEM space. Not process.

Okay, thanks for that. And then just final question, can you describe what automotive is looking like globally? Investment spending is still fairly robust there and has Japan impacted their investment spending plans at this point? Thanks.

Automotive continues to be a very strong vertical and continues to be our strongest vertical and that really is worldwide. And, as of now, we have not seen an impact on spending or projects with respect to the supply-chain issues. Now, we are not on the vehicles, so the fact that they are running at less capacity does not immediately impact us as a supplier.

But, I think you did -- you probably have seen the comments from Toyota just recently, where they expect substantial production declines over an extended period of time. Our only concern with automotive is if there is a prolonged reduction in production, that's going to impact their investment, simply because of profitability and cash flow. And that is something that could be an impact later, but today, projects actually have increased in the quarter. I should say the front log of projects, particularly in North America, have increased in the quarter in auto. And, we're seeing continued strength in Asia-Pacific and Latin America. So, no change yet, a concern in the future, that if there is a supply-chain, extended supply-chain disruption, that some of the automakers may have to revisit some of their CapEx spending, just simply based upon current business performance.

John Inch, Merrill Lynch.

So I just want to ask you about the midpoint, I mean I got the commentary on why the top end of the range wasn't changed, but you know, so you raised the midpoint by $0.05, but if I compare, sort of your outlook this year versus last year, I'm sorry versus last quarter for this year, I think currency is an extra $50 million. If you convert that at your 17% margin target, that's basically $50 million -- basically I think it works out to about $0.05 at the midpoint.

I guess I just don't understand why, if you've still got another $100 million in the revenue, why does that not even -- if you don't give a 35% variable contribution, why isn't that another sort of $0.10 plus, on top of that to move that midpoint a little bit higher? Are you just -- is it because of the uncertainty in the back half? Or some of the other things you talked about with respect to mix? Or is there something else?

No, I would say you've captured it though. It is primarily -- the volume benefit is primarily offset by increased expectations of higher material costs as well as some negative mix, and then there's also a negative contribution from share count that is roughly about $0.04.

Okay. And that -- you don't have plans at this point to offset to a greater degree? You guys have a pretty strong balance sheet and you have been buying your shares. Why not hold those share count in check?

Exactly what we buy in the balance of the year is going to depend on, as you know, cash generation, what we end up spending on acquisitions this year, whether or not we do a discretionary pension contribution. But, originally we were intending to offset dilution from equity awards, we're pretty much on track to do that through the first half. You know, depending on all of those other factors, as well as where the price is in the second half, we'll decide how much we are going to repurchase in the second half. Right now, we did not assume a higher rate of repurchases that would reduce that dilution effect.

Could you guys talk a little bit or provide a little more color on your raws or material cost inflation? A lot of your -- a lot of what kind of makes your products up is electronics, right, which all else equal tends to go down in price. I mean all your products look like computers. What exactly is the nature of the raws inflation? It wouldn't appear to be oil; is it metals costs? And maybe just sort of a sensitivity around that might be helpful.

Yes; I would say the principal items where we are seeing inflation this year are copper, steel, silver and oil prices and rare earth materials, rare earth elements. Those are the principal areas we are seeing inflation this year.

If you look at Q2, we saw probably in the year-over-year comparison, about 1 point of margin loss to material cost inflation, including oil prices related to transportation costs. We had planned for some of that, but not all of that. And, I would say the surprise areas on a year-over-year basis are more silver and the rare earth elements and oil costs than it is copper and metal at this point in the year.

John, the only other comment that I would add to what Ted said is, part of the cost increases that are not just in the raw materials, they are in the component prices because we did go out and did the best we could to protect our customers with buying components that we thought were going to be in trouble based upon Japan. And, we had to buy those components in different markets from different channels than would be our traditional suppliers so we could increase inventory and protect production.

And, that cost us and we expect it to cost us a little more money in the second half of the year to be able to do that. And quite candidly, we felt that was a good trade-off. And, one that we would make, basically any day to do the best we can, as fast as we can to provide a little more confidence in our supply-chain to be able to support the growth, particularly at the growth rates we are now seeing.

It's very important to us to keep driving growth and to minimize, as best we can, any supply-chain disruption. And I got to hand it to our supply-chain people, our logistics people, they have done a great job in managing the front end of this process. And we feel as good as we can about the outlook there. But, it did cost us some money to be able to protect, as best we could, with inventory, our manufacturing lines.

Right. No, that makes sense. I think it does actually make sense strategically. So, what kind of an inventory build on that front then did you realize? And all else equal I think based on what you're saying, Keith, in theory right, you've kind of locked in a little bit of higher pricing, or I'm sorry, of higher costs in your components to support your revenues, but in theory this should create a little bit of a tailwind I would think heading into fiscal '12. But, curious on both fronts because the cash flow looked actually pretty good. What -- how much inventory did you actually build to support this and then does this create sort of a bit of a materials tailwind if you get beyond the next couple quarters or so?

Let me address the inventory question first. I would say in Q2, there was a modest increase in inventory related to trying to build up related to supply-chain issues in Japan, modest meaning less than $5 million. If we could get all of the additional inventory we would like to get to provide some additional safety stock in the supply chain related to such issues, between now and the end of the year, we might add another $20 million. Frankly, I would be very surprised if we could get all that.

Whether or not it is a tailwind will depend on what happens in the supply chain over the third and fourth quarters, and we just don't have that visibility right now. Obviously, our goal would be to bleed it off and operate with what we would call more normal inventory levels, but that's also dependent upon lead times for that inventory. And, we are seeing lead times in some of these components stretch up. So, those are the two variables, John. The lead times and the actual availability.

And, just lastly, the lead times stretching, I'm assuming this is specifically tied to electronics? Or is there some other --?

I was speaking specifically to electronic components. Sorry for not making that clear. It's not around the copper, it's not around the steel and the other pieces that Ted mentioned.

And then, just, I'm sorry for this last one, but is there any sort of specialized electronic componentry you only source from Japan or your tiered supplier source from Japan that makes that somewhat of an obstacle if you're trying to circumvent that? Or for instance, can you just alternatively just buy in parallel supply chains in Korea or other countries?

Well, there's two dimensions to that question. One is, we have to qualify any new suppliers. And, that takes time. So, one is qualifying new suppliers, if they exist, the second is there is a couple of raw materials that are predominantly supplied in Japan for the world. That is some of the resins for the cases of components, it's some of the films for the components, so it is a very concentrated industry with some of the plants being in the radioactive zone. So, some of this is just total, global supply. Other aspects are just about qualifying new vendors to be able to certify their parts in our products.

Shannon O'Callaghan, Nomura Securities.

So, on the mix impact from the strong OEM growth, given the success really of that initiative, I guess I would expect that to continue. So, do you expect the mix to get any better from here? And if not, sort of what are the things that improve the incrementals in A&S versus or across the Company versus what we saw in 2Q it doesn't sound like it's price it's more of a '12 impact? Maybe just some of the sequential moving parts on incremental margins?

I think there are really three things related to the incrementals in the second half that represent improvement. First is, we get past the significant spending ramp in the second half of last year so we lack that as we enter the second half of this year. The second is, we do expect somewhat better mix.

Keith referred to the very strong growth with OEMs in Europe and the very strong growth we had in the motion control product lines, which are somewhat below average margin product lines in the ANS space. We expect to see that be somewhat more balanced in the second half of the year. Both in terms of motion control versus the balance of the ANS portfolio but also in terms of our growth in Europe versus our growth in North America. And then the third factor in somewhat better conversion margin in the second half is modestly higher volumes.

Okay; yes, that makes sense. And then, you talked about a couple of the verticals, maybe just go through across the Company what, where you are seeing the most strength, what's sort of picking up, what's moderating across verticals?

Absolutely. The current situation would be those performing above Rockwell Automation average would be transportation, which we would include auto and tire in that, mining, the verticals that are at the Company average, really are heavily -- in the heavy industries, oil and gas, particularly in Latin America and Asia-Pacific; metals is getting a little stronger, mainly due to the automotive demands and commodity prices that are out there now. And, those that are -- and we are starting to see growth again in the life sciences area, at about the Company average and that one was [lighting] up previously.

Likewise, water and wastewater continues to be a solid vertical. The below average really is around food and beverage. Now I don't want that to be a -- sounding like a negative, because food and beverage never is dramatically high, but it never is substantially weak and so, it just keeps moving along at the expected rate.

It just so happens at these growth rates, it's below the Company average. But, we still do very well there and it is a very important segment for us. And, within the consumer segment, we are seeing some improvement in the home and personal care sector, particularly in some of the large, project spending which means there is -- there are new lines coming on in that OEM and vertical segment, which would mainly be things like around converting machines for personal care products or for other aspects of home care. So, that's where we are seeing the strength at this point in time. And, that's how we are seeing the different verticals across Rockwell Automation.

Julian Mitchell, Credit Suisse.

My first question I guess, you mentioned globally what you're seeing in automotive, earlier. Can you talk about what you're seeing among your Chinese sort of auto customer specifically because I guess the one difference of Chinese auto versus everyone else is that obviously they have supply-chain issues but the demand side in China, I guess has been weaker for 5 or 6 months in automotive. So, you know if you have a combination of weaker demand plus supply-chain problems, you're much more likely to see some kind of a CapEx move. So maybe just an update there, obviously your overall China business up very strongly; what sort of growth rate do you expect, for the full year in China overall?

Okay. Let's talk about automotive in China first. You're absolutely right, the last couple of months, auto sales have slowed; that's really mainly because of the incentives that the Chinese had placed on the -- in that market, have stopped. And also the talk of, are they going to continue to limit the availability of I'll call it, licenses in some of the major cities being Beijing and Shanghai, are the ones most talked about. But we have not -- given that, we have still not seen any slowdown in the spending or the investments that are going on in China. In particular, some of the multinationals are continuing to expand their joint ventures and some of the leading Chinese manufacturers, domestic manufacturers, are also increasing their capacity.

I think if there is any fallout, it will be in the second-tier and third-tier suppliers as opposed to the 5 to 10 leading suppliers that are competing very aggressively in China. So, we also see, there, that we are able to work both across the automation space as well as the information space in the automotive market and that is one of the areas that we have targeted for our information solutions growth. And, we are seeing some start of traction in that space as well in China.

With respect to China in general, we continue to see the high-growth. This was in the high 30%s, and if you remember the last three quarters, we were up 40% plus. So obviously, we are going to start lapping some very, very strong growth quarters in the second half of our year. We expect that we will continue to see solid growth. And for the full year, we expect to be a little over 20% for the full year.

And, we do expect that China will continue to be able to grow at that rate over the short and intermediate term. And we continue to add resources, we continue to expand our distribution and channel capabilities in China and continue to build out the organization infrastructure to be able to absorb that growth and we are very cognizant of the need to have the resources and the structure and the talent to be able to continue to drive growth in that market, and we know we are outperforming the underlying market growth there. So, we feel good about China and its future for Rockwell Automation.

Thanks. And then just one question, on the margins, your gross margin was down a little bit year on year in Q1, down a bit more in Q2; I guess because of those sort of three factors you talked about earlier, the idea is that the gross margin expands again year on year in the second half. Is that reasonable? Just in the sense that your segment margin guidance implies about 200 bips of margin growth, year on year in the second half against about, what, 150 in Q2?

I think that's correct. I think your interpretation is reasonable.

Okay. Thank you.

You're welcome, Julian. Thank you.

Rich Kwas, Wells Fargo Securities.

I just had a couple quick questions on the margin. Ted, your comments regarding the 1 point hit to gross margin for the quarter, I assume that was net of the price increase that was put in, in November; is that correct?

No that's not net of the price increase. That's kind of the pure, what are we seeing in cost increase year over year.

Okay. So, that's a gross number. Okay. And then, on the price side, why -- is it your typical fashion to put through price increases at a particular part of the year? Or why wouldn't you be a little more aggressive on putting through a price increase here to offset the material costs? Is there some kind of competitive dynamic that's affecting that decision process at all?

I would say it has been our practice to put through price increases at a particular point in the year. We've deviated a little bit from that in the last two years, in part because of the economic conditions. But, because we sell as much as we do through distribution, we need to give distributors some appropriate warning and time to get new prices implemented.

Okay; so, we should -- I think it was in November, we should think about this as kind of affecting the first quarter of 2012 as kind of what you're thinking right now? Or could it be sooner than that?

Well, I mean, I think in terms of seeing any impact from a price increase, thinking about first quarter 2012 is reasonable.

Okay. And then just a big picture question on Japan -- Keith, are you seeing any incremental decisions here from the Japanese OEMs on adding capacity here in North America? They are getting hit because they produce certain products solely in Japan. From a risk standpoint it would seem like they'd be a little more willing to have more products dual sourced or dual produced I should say. How should we think about that? Are you seeing any signs of that? I know it is early though, so any color around that would be helpful.

I think you answered the question at the end there. It's very early. I think right now, they are still in scramble mode trying to come up with the best evaluation of whether the short and intermediate term look like. Based upon what that tells them, they would then make longer term decisions and if it would be to diversify locations, and expand their supply chain from a geography standpoint. I think that's a much longer-term decision and one that they haven't gotten to the point of making at this time.

And then last quick one, what was the solutions book to bill on the quarter?

It was 1.06.

Terry Darling, Goldman Sachs.

Thanks, appreciate all the detail on the puts and takes on the margins. Just trying to make sure I've got the path forward clear. So, Ted, the 1 point margin impact in 2Q that you call out as gross, you also said price was up just a bit less than 1%, so net, maybe you got 25 basis point headwind, something like that. A is that correct? And B, how does that look in the plan, Q3 and Q4?

I don't want to confirm a 25 basis point headwind but how you characterize it is correct. I would say going forward, in Q3, Q4 we are expecting about the same impact for material cost inflation, maybe slightly higher and we're expecting a slightly better realization on price in the second half than we got in Q2.

So, that net headwind actually gets less in the next couple quarters then?

Yes, but I would say slightly.

Okay. And then on the organic revenue increase, the $50 million, how much of that was out performance this quarter versus what you're seeing over the next couple of quarters? And, which end-markets and/or product areas are you seeing that greater optimism on the organic piece of the increased revenue guidance?

Well, I think it would be fair to say we're talking about roughly $50 million. We don't give quarterly guidance so I'm a little bit reluctant to talk about how much we exceeded our expectations or missed our expectations in Q2, but clearly, Q2 was a pretty strong quarter for us. So, some of that $50 million relates to our performance in Q2 and some of it is increased sales in the balance of the year. I'm not sure, Keith, I'm not sure I would pick any particular vertical or region to say that's where we have better expectations. It's pretty much across the board. And, it's a small number.

It's a small number. That's just what I was going to say. It's a small enough number that the accuracy we have to pinpoint that, we're going to see pluses and minuses and I think we just felt that was the net results of those pluses and minuses throughout the remainder of the year.

Okay. And then just lastly, Keith, I wonder if you'd update us on how the acquisition pipeline looks at this point? You talked about the South Africa deal; do you see more of those small bolt-ons out there?

Yes, we continue to -- I mean that is the model. We believe small bolt-ons is the way to expand our footprint, expand our domain expertise, fill technology gaps and really, allow us to do more for our customers and expand the portfolio. And so, I'm hoping that we'll have another one to talk about in the near future here. And, we continue to exercise the pipeline and we continue to drive opportunities on a global basis.

I would say, in the last 12 months, 18 months, we've certainly tried to expand the radar screen to have a much more-- much more interest on companies that are in emerging markets and are able to help us grow faster in those high growth, potential areas. So, we think we have a solid pipeline. And, as Ted mentioned, that is one of the options for cash deployment, and that's why we're trying to balance the cash needs of running the business with acquisitions, with return of excess to shareholders and whether that's dividends or whether that's a dividend increase or whether that's ramping up in the second half of the year our stock repurchase, we still have, as he mentioned, the question around a voluntary contribution to the pension plan that can also impact that.

And, what we try to do is to make sure we are able to make any acquisitions that we want and after that, we apply it to those other categories. So, it is kind of a number of moving parts that we want to stay in synch at all times on.

Jeff Sprague.

A lot of ground covered so I'll be brief. I just wanted to get a little bit more into the mix, and kind of the essence of my question is obviously, you're going to have kind of a quarter-to-quarter gyrations in the mix. But, to what extent are we seeing kind of a cyclical transition in the mix that's quasi permanent? If you get my drift towards larger projects and the like and how should we think about that impacting the margins?

Jeff, I guess the most clear answer would be, time will tell. At this point, we don't think there's any cyclical transition occurring in our mix. I mean if you think about Q2 to Q3, I mentioned we had kind of an unusual $22 million project shipment in the solutions business which kind of increased the solutions versus product mix in Q2. We think in Q3 that goes back to a somewhat normal level and then we talked about in A&S the specific issue of very high OEM sales in Europe with a disproportionate part of that in motion control. We also think that goes back to a more normal level as we get through the balance of the year. Frankly, if, in the balance of the year, motion control continues growing at 40% year over year, (inaudible) a little conversion margin because of that I'm not going to be disappointed.

No, I got it. And actually, on that issue, motion, is that a business you think you permanently would have below segment margins or is it just because you're in a growth and investment phase? Should that business inherently move up towards the segment average over time? Or is there something just fundamentally different about the business that will hold the margins back?

No, there certainly is differences in that business and you know we kind of have characterized the A&S segment as really made up of two pieces if you will. The one piece is the controllers and software. And, that has margins above the segment average. We also have, for lack of a better word, peripheral products which is where we have motion control and a lot of our component sensing and safety businesses. Those have very good product margins; it just so happens they're not at the same level as our software and controllers. And so, they are below the segment average.

And, while those are very good margins, and as Ted said, we'd be happy to report continued growth in any of those and we have talked about the high rates of growth in safety, and we had another, by the way, we had another high growth rate this quarter. So those two pieces make up a very important piece of our OEM portfolio.

And, the other positive part of this is we are now selling more of our portfolio on the machines and that's a real positive for the conversion and for the ongoing building of this annuity at OEMs. And more importantly, why we are excited about building that OEM segment is because, at some point in the future, it converts to MRO business. And certainly the MRO business in our products is also a very solid and important portion of the business, not just to Rockwell Automation, but our channel partners as well.

So, it's strictly a, what's really good and what's good and that's the dynamics that are playing on here with the margin. But, we're absolutely excited about OEM business, we're excited about our motion business, our sensing component businesses our safety components; those are all great businesses. And our goal is to grow them as fast as possible and as long as possible so that we can build an installed base as well as being the control supplier of choice at those OEMs and sell them everything out of our portfolio.

So, I think that's -- we continue to work on margins in all our businesses, including our controllers in our software. So, the goal is how can we improve all of our margins but the mix continues to be one that, given on how that plays out in any given quarter, can move the average A&S margin a little bit up or down.

Got it. And just to clarify, though, the motion margins are not disproportionately below where those other tranche of product, safety and other things are? It's in the pack?

No, no, they're not -- now, I will say there is a dimension of motion, the mechanical part, the servo motor part, that is a little bit below but it is still very solid margin business. The rest of the components are certainly very consistent with the component margins we have in our CPNS business as well as the other component portions of our portfolio. So, there is nothing fundamentally wrong with any of those businesses that we have to, I'll say fix. They're just -- they're just different margin businesses but they're all great performers.

Okay, we are a little bit over time but we're willing to make take one more caller if we can make it quick.

Mark Koznarek, Cleveland Research.

You might have even touched on this because I did get on a little late, but just talking about the conversion margins for the quarter, that by my calculation were 22% and that, is below your 30% to 40% target. And, right as I got on you were enumerating some of the issues, the raw material issue, the mix, the OEM mix that you just went through with -- in some detail. And then, also you've indicated before this growth in solutions that will occur as project activity picks up. So, I'm just wondering if you can rank order the importance of those three headwinds as they affected the conversion margins in the quarter?

Yes. I would say that the mix and increased material costs had about an equal impact on conversion margin in the quarter. And, there is also a modest, negative impact due to currency translation.

Okay so solutions, the solutions mix really wasn't an issue at all in the quarter?

Oh no, I'm sorry when I talk about mix, there were basically two mix impacts. One was solutions versus product and then the other was a mix within the A&S segment.

Yes, I'm asking you to separate those two if you could just in terms of priority? Which was more important?

I think for our purposes today, I think it would be fair to say they were about equal.

Okay so all of these things are more or less equal then? And we see at least two of them, well one of them going away, that OEM on machine ratio will get back into balance in the second half and then you talked about how the raw material issue will be offset by more price so I guess we do have two of them kind of abating as time goes on?

Yes. And what we talked about, first and second half in terms of conversion margin is we get to the second half and we're kind of lapped the significant spending increases that occurred in the second half of last year. That's one factor. The second was, somewhat better mix in the balance of the year and then the third factor was, somewhat higher, organic volume.

Okay, great. So with that, we are going to wrap up today's call and we thank all of you for joining us.

That concludes today's conference call. At this time, you may disconnect. Thank you.