Regal Rexnord Corp (RRX) 2009 Q3 法說會逐字稿

Good afternoon. My name is Chrissy, and I will be your conference operator today. At this time, I would like to welcome everyone to the third quarter 2009 earnings conference call. (Operator Instructions) Mr. Barta, you may begin your conference.

Thank you. Good afternoon, everyone, and welcome to the Regal-Beloit Corporation third quarter earnings conference call. Joining me today are Mark Gliebe, our President and COO, Henry Knueppel, Chairman and CEO, and John Perino, Vice President of Investor Relations. Before turning the call over to Henry, I would like to remind you the statements made in this conference call that are not historical in nature are forward-looking statements. Forward-looking statements are not guarantees since there are inherent difficulties in predicting future results and actual results could differ materially from those expressed or implied in forward looking statements. For a list of those factors that could cause actual results to differ materially from projected results, please refer to today's earnings release and our filings with the SEC. Now, I'll turn the call over to Henry.

Thanks, Dave. Welcome, everyone. Thank you for joining our call and your interest in Regal-Beloit. We will follow our usual agenda. I will make a few opening comments. Dave will handle the financial aspects of the quarter. Mark will give you some color on the products, markets, and operations, and I will briefly preview the fourth quarter. Then, we will open it up for questions and answers.

Let me start by saying we are pleased to be able to again report sequential quarterly improvement in earnings and cash flow. While revenue levels were well below last year's record quarter, our businesses performed well on all fronts and were aided by temporary tailwinds in commodities and tax matters. More important than the positive quarterly results were the meaningful progress on cost reduction efforts announced early in the year and continued emphasis on energy-efficient and intelligent products. The plant moves that we announced at the beginning of the year were significant in size and the targets for completion were aggressive. Our operations team performed in an incredible fashion to complete the moves on schedule and in line with the cost targets we articulated.

As Mark will discuss in a few minutes, our nw product pipeline continued to roll and produce results. Sales of energy efficient products were nearly 20% for the quarter, which frankly was somewhat of a surprise. As you will recall, we saw a sprint of HVAC high efficiency demand in the second quarter necessary for our customers to fill their pipelines and deal with the stimulus driven demand for SEER 16 and above units. We did not expect the third quarter to be as strong due to the pipeline being filled during the second quarter. The reality is that it was not as strong, but it remained solid throughout the quarter, and the buying behavior that we expected, in fact, occurred. In addition, growth in nearly every business in energy-efficient products continued to gain traction. These are great and more long-lasting developments for us.

Regarding our markets, we can not report significant improvement in demand. Demand felt better due to the inventory liquidation phase coming to an end. But as we expected, there were only limited signs of market improvement. As we have told you on previous calls, we did not expect any meaningful recovery this year. Improvements for us had to come from new products and cost out, and fortunately, we made progress in both.

Finally, our team delivered on all of our working capital initiatives, and we continued to strengthen balance sheets throughout the quarter. I'll now turn the call over to Dave Barta.

Thanks, Henry. It is difficult to get excited when your headline talks about sales being down 25%. To put it into perspective, this is compared to a year ago when we reported record Q3 sales and organic growth of about 10%. Beyond the headlines as Henry mentioned, there were a quite a few positives to the quarter and several areas where the RBC teams executed superbly to deliver solid results, and we believe position us well into the future. With that as a backdrop, as we mentioned, sales were down 25% to $465.2 million as compared to the $620.6 million reported for the third quarter of 2008. Included in this quarter's results was $11.7 million in sales for the Dutchi business we purchased last year and the CPT acquisition completed in January of this year. The impact of FX on sales was a reduction in sales of 1.1%.

By segment, electrical segment sales decreased 24.2% as compared to the prior year inclusive of the acquisitions. If you exclude the acquisitions, sales decreased 26.3%. The further breakdown for that segment, commercial and industrial motor sales in North America decreased 29.6%, global generator sales decreased 55.2%, and sales for the HVACR business decreased 8.3%. And for the mechanical sale segment, sales decreased 32.6%. As Henry mentioned, one of the bright spots was a sale of high efficiency products which reached 19.3% of total sales as compared to 13.6% a year ago and the 19.7% that we reported last quarter. As Henry mentioned, at the last call, we had expected that percentage to be less than what we had reported for Q2. However, we continue to see strength in the HVAC side of the business, commercial refrigeration, and actually in some pump motors and a few of the industrial high-efficiency products. The gross margin for the quarter, while being pressured by volume reductions -- we did benefit from some raw material tailwinds and a more stable pricing environment. And we finished at 24.5% as compared to 21.4% a year ago. Included in the cost of goods sold was approximately $1 million of expense related to the previously announced plant rationalization projects. And these are just the final tail-out costs from those three plant closures.

Operating expenses were down $1.5 million from the third quarter of 2008 at $65.6 million. Included in this was $4 million of incremental SG&A expenses related to the Duchi and the CPT businesses. Additionally, we did record increases in bad debt, legal reserves, and some minor restructuring for some of the plant moves that added about $3 million. The tax rate for the quarter was 26.9% versus 36% for the third quarter of 2008. We had originally expected the rate to be 30%. And the difference to the 30% really results from the resolution of several open tax matters in the final 2008 return to accrual true-up. The net income attributable to the Company for the quarter was $31.2 million, as compared to the adjusted $36.1 million for the third quarter of 2008. And on a per share basis, we finished the quarter at $0.82 as compared to the prior year adjusted EPS of $1.07. It is important to note as we mentioned in yesterday's release that because of the timing of the stock offering and the quarterly distribution of our income, the calculation of EPS is based on average shares for the quarter. In accordance with FAS 128, this results in a higher share count, lower EPS than normal calculation basing it on a year-to-date basis. The other impact you will notice is the three quarters won't add to the year-to-date total.

Turning your attention to the balance sheet -- debt and cash flow. We ended the quarter with $530.6 million in debt, which is a decrease of $22.5 million. That decrease is primarily related to the conversion of some of our convertible notes that we had talked about at Q2 call. We ended the quarter with a cash balance of $354.3 million. Also, included in other assets is $10.7 million of invested cash for our purposes that does not classify as cash. So it brings our cash and investments total to $541 million.

Also on the financing front as we mentioned, $27.6 million of our convertible notes were converted during the quarter. And additionally we have holders of another $27.5 million of our convertible notes that have notified us of their intent to convert which were settled after the quarter. As with the first conversion, we elected to pay the premium in shares, the -- up to par value in cash. Because of the treasury method of accounting, we historically been included this share for the premium portion are fully diluted share count. Again, very pleased with the cash performance -- with operating cash of over $110 million for the quarter. The highlight was further improvements in working capital, including improvements in AR inventory and AP. And this is up from $42 million in operating cash a year ago. With regard to other cash flow information, depreciation and amortization was $16.8 million for the quarter, and CapEx was $7.3 million.

Turning to the fourth quarter as our release stated yesterday, we see a range of -- for EPS between $0.59 and $0.66 per share. We're again going to see sales down but to a much less degree, it should be noted that we do have one extra week in this fiscal fourth quarter as the year will end on January 2nd. Well have anniversaried the Dutchi sales acquisition. We will see the benefit again of the plant and other restructuring projects, and we will see $1 million or less of tail-out restructuring costs, but that is pretty much behind us. We do expect to see SG&A costs drop slightly from the third quarter on an absolute basis as we're not forecasting any out of the ordinary expenses. We're using a tax rate of 30% for the fourth quarter which could vary slightly based on a distribution of income. And we're using a 38.5 million share count for the fourth quarter. With the projections and our year-to-date performance, we're adjusting our full-year CapEx spending to between $35 million and $40 million, and depreciation and amortization to be consistent with our $65 million to $70 million prior guidance. I'll turn the call over to Mark.

Thanks, Dave. Good afternoon, everyone. Despite the continued weakness in our industrial markets and the difficult year-over-year revenue comparison, our team continues to make tremendous progress. First, let me address the current state of our markets. As a backdrop, it might be helpful to reconstruct the changes in our markets since the third quarter of 2008. While it is hard to remember this time last year, back then we reported a record third quarter with most of our businesses delivering significant organic growth. We said at the time that we were going to feel the crunch, but we had not yet felt it through October. Obviously, the world changed. And for us, that change occurred in November. Our markets experienced a free-fall for the remainder of the fourth and first quarters, with the severe inventory liquidation piling on an already ailing market. We began seeing some steadying of our early cycle markets in the second quarter of 2009, but inventory liquidation was still in full swing. And our late cycle businesses were still contracting. As we ended the third quarter of 2009, it appears that our early cycle customers' inventory liquidation cycle has come to an end, and we are seeing real demand flow through the channels. However, we are not seeing any substantial improvement in order rates. And while orders in our late cycle businesses have steadied, they have leveled at a lower point.

We did experience a few bright stops in the quarter with nice growth in our energy-efficient products, and stronger demand in our higher growth, India and China domestic markets. However, these bright spots paled by comparison to the overall market deterioration. Fortunately, we accurately forecasted the scenario over a year ago, and we moved our emphasis into a host of cost-out programs. We took very difficult actions, including closing three facilities, moving product lines, consolidating design platforms, and reducing headcounts in every business. We asked our people in every function to recognize and respond to the real world, not the world that we had hoped for. They did, and we want to acknowledge and thank all of our people for their incredible progress and performance.

As you know, we have been focusing our new product development efforts on energy-efficient products. As Henry stated, we continued to see a mix shift toward these products during the quarter. Our businesses are all participating in this secular trend, and we view it as just the beginning. Despite our sales in total being off 25% from third quarter 2008, our energy-efficient products increased roughly 6%. This is a testament to the vibrancy of our new product portfolio, and the real needs in our markets for these products. We are pleased to be able to say that in our last year despite the pressure on cost-out, we did not cut our spending on this vital area for our future. In fact, we have added resources in our engineering effort -- area to fund a specific product -- projects.

Each quarter, we have highlighted a couple of new products released during the quarter. During the second quarter, we communicated the expanding of our R59 frame ECM platform to include higher horsepower and double-shaft capability. We also discussed the launch of our new electric gear aluminum frame gearbox.

Today, we'd like to tell you about three additional products. First, we have started the rollout of a new line of [IEC] integral horsepower motors to meet the increased energy-efficiency requirements of the markets outside of the US. As you may know, IEC is the standards designation used in many countries outside of the US, including Europe and India. The majority of our industrial motors sold in India today are designed to meet standard efficiency levels. However, this is rapidly changing as more customers are converting to high efficiency motors to save energy and lower their operating costs. Our new IEC motors will meet or exceed regulated energy efficiency standards and will be capable of even higher energy efficiency levels in the future. These new motors, ranging from one to 50 horsepower, are being manufactured in our India motor facility using our very best manufacturing techniques and processes. The designs were a collaborative effort between our engineering team in India, including our global technology center in Hyderabad, and in the US. We are excited about the opportunity to provide high efficiency industrial motors to our customers outside of the US.

In our DURST division, we launched a new transfer case, which was designed specifically for hybrid-powered refuse trucks. The transfer case is an integral component of the hydraulic [launch-assist] hybrid system utilized on these trucks. Energy is stored while the vehicle is braking and then transferred back to the wheels using hydraulics through our transfer case. The system provides a 25% fuel savings and a 27% emissions reduction. Vehicle brake life was also dramatically increased. This new transfer case design can also be used on a wide variety of hybrid vehicles using similar technology.

In the third quarter, we also launched a new 200 horsepower motor designed to meet special customer requirements for a cooling power application. This new design from Marathon Electric required a significant weight and noise reduction while meeting NEMA premium energy efficiency levels. The design yielded a 22% weight reduction and an overall 10% improvement in noise performance. This new compact high efficiency motor can be used in a variety of applications where size, weight, noise, and efficiency are critical requirements for our customer. We have already received additional orders as a result of this new product development.

Finally, as pleased as we are with the third quarter and as much progress as we've made in the past year, we have much more to do. We are actively pursuing cost-out activities on every front. Our variable cost productivity deck looking forward is full, and we are focused on world class performance in every part of our business. We are continuing our march on Lean Six Sigma, adding new tools and refining our programs. We are continuing to gain traction but remain humbled by the opportunity that lies ahead. We are continuing to create, develop, and deploy new intelligent energy-efficient products. Our labs are full. Our pipeline is full, and yet we have immense, uncharted territory yet to cover. While we cannot yet say that we are excited about our markets, we are definitely excited about the progress we are making in cost-out and new products. And excited about the future of the Company. With that, I'll turn it back to Henry.

Thanks, Mark. Looking forward to the fourth quarter, we are pleased to be able to project earnings equal to or above last year's fourth quarter. While that is a mixed message looking at last year's results, it represents real progress on cost-out programs, new energy-efficient products, and an even stronger balance sheet. And in total, significant progress despite expected lower sales. Given our progress in a severely down market, we are anxiously awaiting even small improvements in our markets as we move forward. We cannot say enough about what our team has accomplished. We are particularly pleased that we are in current position without having cut spending on new product development or people and process development. Regarding our balance sheet, we are in the fortunate position to be able to continue to fund new products, productivity projects, and look at acquisition opportunities. On the acquisition front, our pipeline is full. That said, we remain disciplined and patient. We are now in a more comfortable part of the business cycle in that the trailing 12 months earnings more realistically reflect the current business environment and provide the opportunity for reasonable returns across the business cycle. That said, multiples have not yet contracted meaningfully, and buyers and sellers expectations have not generally converged. We remain confident, however, that we will find good fits that will benefit our strategies and provide meaningful returns for all Regal-Beloit Corporation stakeholders. In total, we would be much happier if the great recession had not occurred. That said, we feel good about our progress and current position. And we are poised to take advantage of the opportunities that lay in front of us. With that, we will open it up for questions and answers.

(Operator Instructions) Our first question comes from Jeff Hammond from KeyBanc Capital Markets. Your line is now open.

Hello, Jeff.

On the high efficiency mix, you had thought that it would come down. Is it still your thought that that mix normalizes a little bit from here? Or after having a couple of quarters, just given the stimulus, et cetera, is that the right mix to think about?

Well, certainly HVAC is one of the big markets for some of our products. We think the other markets are going to continue to pick up speed. But, the fourth quarter, first quarter, are the seasonally slow periods for those businesses. So we would expect it to come down a little bit in the fourth quarter and first quarter. But we believe that the real buying behavior is now pretty well set up for that -- for that business to stay in the high-efficiency arena. And we still think we'll see significant growth in commercial refrigeration and the industrial businesses as we go through the next couple of years.

Great. And then it looks like like what you reported versus maybe the midpoint of your initial guide was $0.18, $0.20 difference. Can you give us a sense of what you think of that up-side was, either the operational or the mix benefit versus something one-time in nature, whether it be tax rate, commodities, or otherwise?

Sure. The tax rate -- we can start there. Our initial guidance was predicated on a 30% effective tax rate, and as I mentioned we came in at 26.9%. We picked up about 300 basis points there. So I think that roughly is $0.06 or so, in and of itself. The other two pieces I would say, material cost tailwinds were about right where we expected. The pricing was a little more stable. So that that price versus inflation gap was a little more favorable than we had thought, as well. And then obviously, the mix of high efficiency products was also then a mix benefit that we picked up that was above our expectations. From that standpoint, the tax rate should go back to 30% at least in the near-term. And, material costs, as you know, were on the rise. So we'll let people make their own call on forecasting materials. But the bias is upward there. Pricing -- we're in competitive markets, so there is certainly always a lot of pressure on the price side of the business. And as Henry just mentioned, the high-efficiency mix -- the HVAC legislation continues at least through next year. At the tail end of next year, we'll see the impact starting from the industrial NEMA premium transition. I would add, as you go throughout all of the products that we track that are high-efficiency, there are a lot that don't fall into those classifications, some things we're doing in small end of pumps and so forth, and other industrial products that wouldn't fall into that class. So we think it could fall back. It will depend somewhat on the HVAC legislation. But even if that goes away at the end of next year, we'll see the industrial side pick up.

Perfect. I'll get back in queue. Thanks.

Your next question comes from Steve Sanders from Stephens Inc. Your line is now open.

Good afternoon. Good quarter.

Thank you.

On the HVAC side, there is obviously a lot of discussion about pent-up demand there. If you want to make some kind of broad comments on that, I would appreciate it. But what I am more interested in is your ability to respond to the pickup without making a significant financial bet that it will pick up.

Steve, I guess let's talk about the pent-up demand, first. There is two or three different studies that have been done from everybody from the Manufacturers' Alliance and others that would say that there is some pent-up demand for durable goods. I think Ingersoll-Rand in one of their presentations talked a little bit about that. But the reality is that if you take a look at the long-term trend in terms of number of units that have come up for replacement, that have not been replaced in the last couple of years, you would say that there is certainly some pent-up demand. There is a life expectancy of these units of roughly 15 years, and so we would think that as times could become more secure and used home sales improve, which they continue to improve -- month-over-month right now, that we would see -- the reality being that that equipment eventually wears out. And we come back into the market as replacement demand. In terms of our capacity , we try to stay well ahead of capacity needs. I would say that we certainly feel comfortable that we can handle capacity changes. We handled the capacity requirement change for energy efficiency in the second quarter which was a pretty extreme change in a short period of time, and we are well capacitized for the

Okay. And, Mark, maybe a follow-up your comment about the high efficiency industrial motors in India. Do you get a comparable premium in that market that you would get in the North American market? And is the market reception -- the incentives and drivers in India, also comparable to here? In other words, that sounds like it could be a fairly significant development over the next couple of years. I just wanted to see if you could expand on it.

The premium is predicted to be similar, but I don't think we have the experience yet to really know. So that is point one. I think your time horizon in the way you're thinking about it is the right one. Over a couple of years. They're not quite there yet -- as advanced as the US is in leading with regulations that drive the kind of energy-efficiency levels we have here. But that is the direction it's all heading into. So over the next couple of years is the right way to think about it.

Okay. Okay. Thanks. And then, final one for Dave. Did you give us a rough sales number for the fourth quarter? And then, I think your comment on the SG&A line was that the dollars would be down slightly, but I also thought you said that sales would be down, and that you had $3 million of one-time items in SG&A. So, first, just the top line expectation for the fourth quarter. And then a little finer point on your SG&A comment given falling sales and some restructuring expenses this quarter.

Sure. I made the comment that we would expect to see about half of the decline or less. So we're looking at a decline of high single digits to low double digits in terms of the sales decline in the fourth quarter. And, yes, at this point on an absolute dollar basis, I would not at this point expect to see that approximately $3 million worth of -- you would like to call them kind of extraordinary and out of the normal, but I was just reflecting on our last three quarters conference calls and bad debt seems to have become something we talk about every quarter. So we would love to think that we're reaching the end of some of those issues. So we have not included anything out of the ordinary in SG&A which would pull it back by several million dollars at least.

Thank you very much.

Your next question is from Mike Schneider from Robert Baird. Your line is now open.

Great quarter again.

Thank you, Mike.

If I can focus on the cost equation. Dave, you mentioned there was about $3 million in restructuring charges this quarter. Inclusive in there is the bad debt and legal expenses, as well?

In SG&A, there is about $3 million, which would have included bad debt, legal, and some asset-related write-offs due to the restructuring. In cost of sales, there was $1 million. So I guess in total [year at about] $4 million.

[In total year] -- $4 million. And that is not a sequential increase, that is a year-over-year increase?

Correct.

Okay. And when you look at materials this quarter, do you have any rough estimation as to what the boost to gross margin or operating margin was this quarter so we can start to reverse that as materials rise?

I don't think at this point we're going to go into that amount of detail just because of the competitive nature of markets we're in.

And Q4 though, you would expect the tailwind to be lesser than it was in Q3?

Yes, we've seen -- as you know, copper has moved up off of the lows. And, again, we didn't benefit from all of that -- at that point because of the hedges. But certainly copper has moved from a low $1.40 back up to the $2.80 to $3.00 range. And then we have seen certainly some pressure coming as well on steel, reversing the trend we saw earlier this year.

Okay. And then absorption or underabsorption at this point, I believe last quarter it was something north of $7.5 million in your estimation. What was it during Q3? And then, what is the trajectory from here?

We really this quarter produced basically in line with demand. You saw the inventories were down $10 million or so. So not significant. So we're producing in line with demands. I would say there is not any absorption impact over and above the sales levels that we're at.

Okay.

And we don't foresee -- I guess I would add to the second part of your question -- we don't foresee that really changing in the fourth quarter. One thing we're definitely trying to do this year -- generally, the fourth quarter has been somewhat of an inventory increase for the Company. Primarily in the HVAC business as they start looking toward gearing up for the next season. This year, we're making a pretty significant attempt not to increase inventories as we go into the fourth quarter. Again, traditionally, we have slightly.

In fact, on that point, what are you hearing from say the major HVAC companies? And then maybe the pump players as well? As to their production forecasts are modeling for you in Q4. Will their production days be down in Q4, and so you're adjusting accordingly?

Yes, they're -- actually we're -- even though it's off of a lower base this year than last year, we're sill seeing this normal seasonal impact. And that's what we're hearing.

I think as far as over and above, I think some of our peers and other industrials have mentioned there is certainly a little bit of uncertainty. We don't -- at this point last year, we saw basically the world just stopped moving end of November and for the month of December. And we're not hearing about any extended-type shutdowns. But I'm sure everyone -- all of our customers -- will be watching inventory levels and demand very closely and react quickly if they need to. At this point, there is nothing like this baked into our numbers.

Okay. And then final question, just on the Energy Act of 2007. The deadline springs next December. Baldor is out with a number that they think it impacts -- or will add about $120 million to $150 million in incremental sales. Have you done a similar estimation for your industrial motors business?

I don't know if we've ever translated it down into a number like that. We do have in our IR presentation, a pictorial representation of what the mix shift means for us. And obviously, those motors are a smaller percentage of our mix than they are for, say, a Baldor or so. It is not going to have an impact on a percentage basis as a degree it would for someone like them. So it would be less than that. Somewhere between 15% and 20% of our total sales are impacted by that legislation, but we would expect to see a similar type of [AASP] increase on that percentage of our sales.

Okay. And then I promise last one, on just pricing within the high efficiency channel. As the world migrates higher, Mark, maybe you can just comment on just what you've seen in terms of new competitors, especially lower cost country competitors, and what pricing has done in those channels?

On the industrial motors side, I don't think there's been any new competitors that we haven't seen -- actually on both -- on any side of our business. There hasn't been any new competitor that has popped up that we haven't seen, say, in the last four years. So with that kind of time horizon, there hasn't been anything new in terms of pricing. I think it is yet to be seen until the legislation kicks in at the back half of the year to see how people respond. But, we're -- we still believe that there's going to be a premium on those high efficiency products. And, they would provide a significant value to our customers in savings, and our hope is that we'll maintain that.

Okay. Thank you, again.

Our next question comes from Holden Lewis with BB&T. Your line is now open.

Thank you. Good afternoon.

Hi, Holden.

I'm still trying to get my head around the price cost conversation. Only in the sense that it seems like for quarters as copper and things like that were declining, we would ask -- well, are you seeing any benefit from the declining in raw materials? And the answer would be no because the hedges take some time to work through. And now it seems like the run-up in raw materials is a relatively recent affair, and we're saying we have had one quarter where it has benefited and now it is all going to unwind on us. It seems if it was lagging in one direction, shouldn't it be lagging in the other direction? I would like a little bit of clarity, I guess, in that respect. What I'm missing?

Maybe we're stating it in a way that is a little bit too strong. We did see a benefit. We saw for the first time in four years, some real tailwind from materials. And again, we always look at the material versus price. There is two sides to this that impact you. And we had expected coming into the quarter material deflation to be very similar to where it came in. We expected the pricing maybe to be a little bit worse, and that is where the favorability came from. So net-net, it was a positive for the quarter. We are anticipating it being a positive in the fourth quarter. I think the caution that we're providing is more just of that. With copper coming off of a low that as you stated, we never really got the benefit of that low. But copper is up to the $2.80, $3.00 range versus down in the sub $2.00 range. It will still be a benefit next quarter or so. But again, our caution is just to a lesser degree.

Holden, there is also one other piece to that that I think you have to think about, and that is when businesses is falling, what you thought would have been normally, say, 70% hedged turns out to be closer to 95% or 100% hedged. It really resists the move down. On the way up, we typically hedge at the 70% level, so the spot price starts coming back into play a lot earlier than it did when we were headed down in volumes.

And then can you talk a little bit about the sequential increase in the margin. Call it about 20.5% gross margin in the first half of the year, and that steps up to about 24.5%. Sounds like production increases certainly weren't a component to that. So it really was just restructuring, lower charges, mix, and price costs. Can you just give an order of magnitude contribution of those three or four items to give us a sense of just which ones were the bigger pieces -- the sustainable stuff or the less sustainable stuff?

I don't have anything that specific in front of me. But I would say just off the top, I would say probably the number one would have been the cost reductions. I throw into that the plant closures plus less restructuring. We basically completed the second and third of those plant closures for all practical purposes in July. So we saw two months of that. And again, $1 million worth of hidden cost of sales versus two or three X that we saw in the first half. So I would say -- order of magnitude , the cost reductions including those plant rationalizations, a larger net benefit. I would say the mix benefit would be next, and then probably closely after that would be the price cost delta which was a little bit better than it was in the second

Okay. Alright. And on the mix benefit, the right way to look at that is the entire 19% at this point -- that's primarily being driven off of the HVAC. Are you really seeing any meaningful move on the industrial commercial side at this point? Or is that still largely yet to come?

There is probably 25 or 30 different product classifications we actually include in that. So just to be clear, it's not -- HVAC is an important part of it. Commercial refrigeration is a significant part of that. Even in our mechanical products, there are high efficiency products. And then there are other products that we deem a premium as part of the industrial calculation and other products beyond that as well. But certainly how HVAC goes right now will certainly bias that percentage. I would say commercial refrigeration is important to watch as well at this point.

But in terms of the motors that will be affected by the industrial regulations going in at the end of 2010, have you seen any meaningful movement out of that 15%?

No, they have been pretty consistent. The NEMA premium models we have -- have been available for years. And so, if you're an end user and energy efficiency has been important to you, you're already there. An example would be a large processed business, maybe a steel mill or paper mill -- chemical plant that's running 24 hours a day, a seven days a week. They have probably been buying the high efficiency industrial products for as long as they have been offered. So we're not seeing, yet, a very significant move there. I think it's legislation, obviously, will drive that, and in the longer term. In the short term, if you see any move on utility prices that would certainly be another motivator. But to the extent it makes economic sense to be there today, people are already in those higher efficiency products.

Is the right way to look at that is that -- I think you said it will affect about 15% to 20% of your mix will be impacted by those industrial regulations when they come?

Correct.

So that is kind of the number that gets added on to this 19% to get you to where that might look like at the beginning of 2011?

Yes. Roughly, yes.

Okay. Okay. Excellent. And then, also talk again on -- if you look at your operating margin, year-over-year now, you're pretty flat despite revenues being down some 25%. Can you just give us a little bit of perspective on how you have achieved that. Obviously, you have gotten the underabsorption on the SG&A. But gross margin is -- actually, I think it's some of your highest gross margins that you've seen going back to 2001. Do you want to give a little bit of perspective on how that has -- what are the big pieces driving the year-to-year performance on gross margin?

Again, I think it really is predominantly what we've talked about. The plant rationalizations we said would be on last year's volume of $15 million run rate. It's permanent. And this year that we would see half of that. And basically offset it with the restructuring costs which will go away in the future as well. So that's certainly going to be the largest driver. And as we mentioned the mix in the short run, the inflation -- or deflation versus is price is positive. I am not sure if there is much else to add to that.

Lastly, the CPT acquisition. What is the annual revenues on that one?

That was a small one. That is why you didn't see much on it. It was $5 million or less.

Got it. Great. Thanks.

Our next question is from Richard Paget from Morgan Joseph. Your line is now open.

Good afternoon, everyone. You already talked a little bit about the acquisition pipe line and how there is still a dislocation between buyers' and sellers' expectations on multiples. Is that coming closer at all? And why do you still think in this environment that sellers are still assuming that -- we're still in 2008? Have we seen more buyers and non-strategic people coming into the market -- or back in? Or is it something else?

I think any time you go through a downturn -- first of all, you're coming off somewhat record highs in terms of market multiples and valuations. And you have this -- the people who have to do something typically have to do something do that relatively quickly. But then the others are somewhat stuck for a while in the values that they remember. So it takes a little while to adjust. At the same time, the good side of that is trailing 12 months earnings are adjusting down as you go through the cycle. We're now at the point where the trailing 12 months earnings, in reality, that there is not going to be some snap-back is pretty well embedded in the thought processes. The market multiples have stayed pretty steady. They have not contracted. But, I would say we're -- you're seeing M&A activity start to pick up pretty much across the board. I think you'll continue to see it pick up, and the seller and buyer expectations are starting to converge. So I think this is -- we said from back when we did our offering that we were early. That the time was coming when these things would adjust, and we're starting to come into what we'll call that season now.

Okay. And in terms of other buyers out there, have you -- is it still mostly strategic? Or have you seen some private equity money come back into the market?

So far, obviously, we try to do a lot of deals that are negotiated deals, as opposed to just processes. And I would say, that that is the good news. The processes we have been involved in, or are involved in -- right now, would be predominantly strategics. There is always some private equities on the edge, but they're not able to create the value that strategics are in this kind of an environment. And acquisitions right now are about creating new value. So we're not seeing them as being a major factor, yet.

Okay. And then to the expand on a prior question, what is roughly your utilization running at right now?

We're down in the mid-60%.

And then is it safe to assume it is somewhat higher for your high efficiency, or is it pretty even across the board?

No, it is better than that on the higher efficiency products. We've actually added some capacity in this year in higher efficiency products. Where there is a difference in design that doesn't allow you to use the common kinds of equipment. But overall, we're still at a relatively low level of utilization.

Okay. So if there is -- if and when there is a pick-up, like you said, you have ample capacity, then?

Yes.

Alright. Thanks, I'll get back in queue.

Your next question comes from Nigel Coe from Deutsche. Your line is now open.

This is actually Nicole asking questions on Nigel's behalf.

Hi, Nicole.

I thought maybe your voice had changed.

(Laughter) I just have a few. First of all, have there been any changes to steady state earnings profile following all the recent acquisitions?

To our steady state -- well, I think when we did a couple of the acquisitions in late 2007, we talked about the fact that they were coming in at lower margins. And it was a three-year kind of a program to get them up to what we'll call herd average kinds of margins, and we are two years into that. We sped those up because of the slow-down. And so I think that we are pretty well normalized at this point, but we still have a couple that came in last year that we have work to do, frankly, to get where we said we would be. But we feel pretty comfortable we're on the schedule that we said we could hit at the time.

Okay. Got it. And then, why was mechanical so weak relative to electrical this quarter?

Clearly, mechanical is way underutilized. At this percentage down, we are really hurting our utilization considerably. We also had a couple of one-timers that amounted to several hundred thousand dollars that we would expect to not have repeat that depressed it even further. But it is a case mainly of capacity utilization.

Got it. And then, lastly, why haven't you seen a bigger recovery in Asia, in your opinion?

Well, there is a significant part of what we do in Asia that is export-related. And, for example, out of China, about one half of what we make is export, and then about one half of what's left after that export is in power generation. And the power generation is a late cycle business and is off substantially from last year. Some of last year's was driven by unusual events such as the freak snowstorm earlier in the year, and then, the earthquake that hit later in the year that impacted last year's third quarter in terms of our sales. So we definitely have a difference there. But predominantly right now what we're shipping to Europe and the US is off wildly. The part of China economy that is growing relatively strong, we are seeing a reasonable pick-up in our business that is related just to China demand. But it's not a big pick-up by comparison to the power generation and the export business that is off so far.

Got it. Thank you.

Your next question comes from Christopher Glynn from Oppenheimer. Your line is now open .

Thanks, good afternoon. Looking at some of the targets referred to for energy efficient mix, it was mentioned -- the industrial component, the 15%, but I think how does that square with comments that a lot of the industrial business is already there? And the second part would be on the HVAC marketplace for next season, jumping through the seasonal let-down the next couple of quarters. What are your thoughts around a step change in the obsolescence in the non-efficient portion of that market?

On your first comment, maybe again we weren't clear. As far as the energy efficiency percentage moving from the 19% to where it probably will be at the end of next year. We'll get a big boost from the industrial. I think the earlier question maybe got us to the comment that we already have those products. So they aren't new products. It is just going to be legislation that will force that change. Where today, you are making -- as an end user, you're making that call based solely on the economics. Next year, you don't have that option. Our mix of high efficiency products is weighted toward smaller motors, HVAC, commercial refrigeration, and some smaller pump applications today that will get the big boost from the industrial legislation. And your second question?

Yes, in the HVAC space. You obviously had a great move there in the mix this quarter. How would you frame some of the thoughts on what the next step function change can be within that?

I would say we see it continuing at least at the pace that it's on. It is being somewhat affected by the stimulus money that's out there, and in that consumers can get a tax incentive by using more energy efficient systems. But I think that the activity level of potential regulations could come out of our government. It continues to be high. And so I think the future in terms of energy efficiency products in that space is going to continue to increase.

Okay. And then just on the cost-out through the system. Are you still able to track the relative performance in most of the acquisitions and moving into the herd average, so to speak? Or is that becoming more of a blended issue over time?

It varies. There is some of those businesses that are, maybe because of the geography, where we have to maintain separate financials, and there's been some we blended. For example, the FASCO and [YAGEL] business. There is one business today so there is not two separate. The Dutchi business is a stand-alone business. It is a mix, and we do continue to monitor those where it is easy to do so. As Henry said, most of those we're making the progress that we thought, but for the economy they probably would all be where we expected they would be.

Got it. Appreciate it.

Our next question comes from Steve Volkman from Jefferies. Your line is open.

Good afternoon. This is actually Chris Edwards standing in for Steve today.

Hey, Chris.

I guess my question pertains more to I guess what the revenue profile could be next year. It seems like you've been out there talking about 5% to 7% end-market growth, but that you expect to be higher than that. But it seems to me like with perhaps some pent-up HVAC demand, and then, potentially one or two pre-buys toward the end of the year. It seems like 5% to 7% might be low. Could you just maybe give us some color on how you're thinking about that?

Well, first of all, for North America and Europe, we're not thinking 5% to 7% market growth. Certainly, we are expecting good growth in our energy efficient products within those markets. But we have characterized those markets as being more in the 1% to 3% as general markets. We do think there is some pent-up demand opportunity in a few of our markets. But, it's not clear that that's going to be released in 2010 at this point. So from our standpoint, we are trying to ramp up our growth rates overall. Some because of geographic content, particularly in Southeast Asia, where our sales continue to -- other than this year -- continue to grow at fairly rapid rates. And we would expect them to return to good growth rates in the year ahead. And then new products that are oriented toward what we've talked about in the past as the megatrends in our business, which include energy efficiency and intelligence embedded in the products.

I think it is easy to try to cast the markets for us in one number. The reality is, as I think most people are aware, the number of applications and markets we sell into -- any time something is turning or moving we can be there. So it is almost endless. As we look at the publicly available projections that are out, there are still some markets that are predicted to decline. I think we have even had some of our larger industrial peers talk about very weak demand, particularly in the US into the first half of next year. So there is some markets that we still see [a good move] maybe just at a more macro level commercial. We still don't see strong demand in commercial. Obviously, due to the lack of financing. And arguably, the overbuilding in '08 and before. So we think there will probably be some end-markets that we're looking at next year that are down, and some that are up. And HVAC potentially has the potential to be a little better than the average. Asia, hopefully, better than the average. Europe has been lagging the US. And where it has stabilized for us, stabilization certainly isn't growth yet.

Okay. But ahead of the industrial motor regulation change-over, do you think that you could get -- have you thought about any sort of prebuyer? Or how big that might be?

We are -- we would say that there is probably a likelihood there will be some pre-buy. But the last time we went through this in our industrial markets, which was in 1997, it was not a huge number. And we wouldn't expect it to be a big needle mover this time, either.

Okay. Thank you very much.

Yes.

Your next question comes from Dan Wang from B. Riley & Company. Your line is now open.

Good afternoon. First question was -- I think you had mentioned that you believe inventory liquidation activities run through completion. Is that across the board? Are there certain markets where maybe there is still a little bit of excess? Or just maybe some granular details around that would be great?

We think that there is still some inventory liquidation taking place in Europe. That is a smaller area for us, so far. We intend to grow there, and we are working at growth there. But it is not a big needle mover in terms of total corporate look, yet. However, our sense here in the US is that it pretty well ran its course during the third quarter. We think inventories are in good shape both at the distributors and OEMs. And while there may be some additional efforts being taken that they're going to be small, if at all noticeable.

Okay. Got it. And did you mention what the impact from pricing was overall? The top line in the quarter?

No, we didn't. And I think at this point, we probably won't.

Okay. Alright. I guess it's mixed in with the price cost equation there. And finally, I think you commented you saw a few more million from the restructuring. And did I hear right that in the fourth quarter, you expect maybe another $1 million left from restructuring? And that would be -- that would essentially complete your restructuring programs at this point?

Right. As far as the projects we've announced that amount, we are basically at the end of those. Those facilities are, for all practical purposes, closed. Anything we would have from here on out would just be some miscellaneous tail-out costs which is, again, $1 million or less at this point.

And just related to that. Could you just perhaps summarize the cost savings you've achieved so far from those programs? And what's left in the fourth quarter? And how much spillover into next year?

The three principal plant closures we had -- [Neelsville] was completed at the end of the fist quarter. And the Brownsville and Eldon completed early second quarter. The total savings for those on an annual basis on last year's volumes -- so the volume-adjusted, if we are going to assume at this level. But it was about $15 million. So you would be just a little north of probably $10 million, $12 million on current volume levels. More like $12 million. And based on the timing of those, we got about one half of that or a little bit less. Plus we had the restructuring costs this year which now totaled in the neighborhood of $6 million to $7 million. So next year, we'll get the full-year benefit plus the absence of costs.

Got it. Thank you very much.

Right .

Thank you.

Your next question comes from Mike Schneider from Robert Baird. Your line is now open.

Dave, in the mechanical margin. I'm just curious -- that 5% it was down even sequentially. What was run through that segment in terms of unusual expenses?

There was about $1 million, actually, of costs that were somewhat one-time in nature that went through that segment.

And where are you sequentially, then? Are you complete with the additional expenses? Or are there more actions in Q4?

Nothing that we're anticipating at this point.

Okay. And, Henry, just your views long-term on the PT business. Are you a buyer of additional assets? Do you need what you are -- do you have what you need at this point to cross-sell where you can? I'm just curious about just your strategic reevaluation of this business coming out of the recession?

I would characterize us as a still a buyer of those assets, Mike. We like that business. It is a little bit later cycle in nature. And which -- we do like having a spread, if you will, of early to late cycle businesses. It's typically a little slower growth business, but higher margin business. And it plays well into providing a bigger package, if you will, and certain kinds of applications to provide speed and torque solutions, if you will, to our customers. So, no. We're still a buyer, and we like the business. Every business has some pluses and some minuses.

Okay. And then just stepping back now. Q3, at least, had some semblance of balance in the economy and your business. You did 10.4% operating margins on $465 million in revenue. If presuming the materials tailwind fades to some equilibrium, do you think at least at these volume levels in this $460 million range you're still a 10% margin business? Or are we still high single digits at this point? And the reason I ask sets up how to model 2010 if we make assumptions about volume.

Yes, I think it's very close to that, Mike. There's always things that affect it that you don't see coming, but I think the way you characterized it is correct.

Okay. Thanks again.

Our last question comes from Holden Lewis with BB&T. Your line is now open.

Thank you. Can you give a sense of how much is the higher efficiency -- the higher price points related to that? How much is that having an impact on revenues? Is that a meaningful number, contributing?

Yes, I think if you say that roughly 20% of our business this quarter was higher efficiency products, and you said that the average selling price in high efficiency products is 15% to 20% above standard efficiency products. You would say that it's a meaningful number. It is not the be all, end all number. But it certainly is meaningful to us.

When you talk about the price-cost relationship, are you including the mix benefit on price when you talked about that relationship? Or is that price-cost strictly about base unit prices and factors that piece out?

It is the latter. It is base unit prices year-over-year change, and then the base cost changes year-over-year.

There is not a situation here where perhaps some price -- some deflation in most of your line is being offset by better mix? Even in your baseline, you're not seeing any real material price pressure at this point?

No, the mix is completely separate. So we look at just the pure pricing to understand what is going on in terms of our pricing of our products.

And that remains pretty stable at this point. No major deflation.

Well there is certainly some deflation. And it would be a mischaracterization to say that there is not price pressure. I can tell you that for sure. Different businesses have different levels of pricing actions that have taken place that was in terms of what's happened in those businesses. And certainly a couple of our major segments, we have had price down. But it has been -- it was not -- that's relatively, I think, stable at this point. And while we're concerned about what happens as materials continue to come back up, I would say that we're not anticipating there to be further activity in the fourth quarter.

Great. Thank you.

There are no further questions in queue.

Alright. We want to, again, thank everyone for your interest in Regal-Beloit. The takeaways, from our point of view for the quarter, were that the third quarter was benefited by a couple of temporary tailwinds. But more meaningfully was benefited by our ongoing strategy deployment. We expect continued progress in the fourth quarter, albeit normal seasonal lows in our key markets. New, energy efficient, and intelligent products continue to roll out. Our balance sheet is strong, and our acquisition pipeline is solid. We appreciate your forest in Regal-Beloit and hope to talk to you soon.