雷神技術公司 (RTX) 2009 Q3 法說會逐字稿

Good morning and welcome to the United Technologies third quarter conference call.

On the call today are Greg Hayes, Senior Vice President and Chief Financial Officer, and Akhil Johri, Vice President, Financial Planning and Investor Relations.

This call is being carried live on the Internet, and there's a presentation available for download from UTC's home page at www.UTC.com.

The Company reminds listeners that the earnings and cash flows expectations and any other forward-looking statements provided in this call are subject to risks and uncertainties.

UTC's SEC filings, including its 10-Q and 10-K reports provide details on important factors that could cause actual results to differ materially from those anticipated in the forward-looking statements.

Once the call becomes open for questions, we ask that you limb limit your first round of questions to two per caller to give everyone an opportunity to ask questions.

You may ask further questions by reinserting yourself into the queue and then we will answer those questions as additional time permits.

Please go ahead, Mr.

Hayes.

Thank you Cecilia, and good morning everyone.

As you've no doubt seen in our press release this morning, we had another very solid quarter, despite difficult end markets across the businesses.

Three take-aways on the quarter.

Strong margin improvement, substantially stabilizing order rates and strong cash flow.

Although organic revenues declined 7% in the quarter, our continued focus on cost reduction resulted in record segment operating margins of 15.4%.

That's up 70 basis points from last year, excluding gains and restructuring in both periods.

Order rate declines have stabilized across most of the business with notable improvements at Otis and specifically in China and as importantly, we saw strong cash flow performance in the quarter with a significant reduction in inventory across both commercial and Aerospace businesses.

Following along on the Webcast, on to slide two.

As a result of this performance, we now see full year 2009 EPS at $4.10.

That's right in the middle of our prior guidance range of $4 to $4.20.

Included in this revised guidance is a $0.05 increase in restructuring costs in excess of gains for the year.

We also now expect free cash flow to exceed net income for the year.

So on restructuring for the year, we now expect to have charges of $800 million one-time gains of around $175 million.

So restructuring in excess of gains looks to be around $625 million, about $75 million higher than our prior estimate of $550 million.

So that's a $0.45 headwind versus a $0.40 headwind in our prior estimate.

Back to the quarter.

Solid performance across the businesses.

Adjusted for restructuring and one-time gains, four of the six business units improved margin.

Otis, Fire and Security, Pratt & Whitney and Sikorsky, and five of the six business units achieved double-digit margins in the quarter.

Once again, Otis led the way at 23.1% operating margin, that's 300 basis points higher than the prior year.

On revenues, only Sikorsky saw growth in the quarter as they delivered 61 large helicopters.

Carrier's organic revenues declined 14%, but still a significant improvement from the 21% decline we saw in the second quarter.

Earnings per share in the quarter were $1.14, that's 14% lower than last year.

Absent restructuring costs and one-time gains in both quarters, earnings per share was down 7% or $0.09 a share on a revenue decline of 11%.

Foreign currency continued to be a headwind in the quarter with an impact of $0.07 from translation combined with the negative impact of Pratt Whitney Canada's currency hedging program.

Restructuring spend in the quarter was $231 million or $0.18 a share, that's nearly $700 million year-to-date.

Before the impact of 2009 acquisitions and divestitures, UTC's headcount is now down by 15,000 since the beginning of the year.

Partially offsetting restructuring costs were $0.05 in one-time gains in the quarter, a $0.03 gain related to Carrier's sale of a majority of its US Residential business and another $0.02 from tax matters.

A lot of numbers here with gains and restructuring, but importantly, the net $0.13 a share of restructuring in the quarter was $0.03 more than we had previously anticipated, as good performance across the businesses and a little help from FX allowed us to increase restructuring spending, and better position us for earnings growth next year and beyond.

As for orders, year-over-year rates in the quarter have substantially stabilized, although at lower levels.

With some improvements in Otis new equipment, Carrier Truck Trailer and Carrier's US residential HVAC business.

Otis new equipment orders were down 16% at constant currency compared to 40% for the first half of the year.

Asia saw improvement in orders and appears to be the first region with some signs of recovery, led by China, where third quarter orders were essentially flat year-over-year.

Akhil will take you through this in more detail in just a minute by business unit.

Lastly, on free cash flow in the quarter, 160% of net income at $1.7 billion, and this included $150 million of incremental cash contributions to our domestic pension plans.

This follows last quarter's strong performance of 140% of net income, which also included $400 million of domestic pension plan contributions.

The solid cash flow resulted from good working capital across the businesses, particularly in inventory.

Inventory was a source of cash of over $450 million this quarter, as compared to a cash outflow of about $250 million in last year's third quarter.

Year-to-date free cash flow is now at 123% of net income.

As I said before, for the year, we are confident that free cash flow will now exceed net income and that includes at least $750 million in overall pension contributions.

We also increased share repurchase in the quarter to $430 million, bringing the year-to-date total of $780 million.

Acquisition spending in the quarter also increased to $360 million, primarily for GST, which further strengthens our position in the Chinese fire safety market and Turboden, which enhances our presence in the renewable energy generation market.

So the quarter where we saw continued cost reduction, margin expansion and excellent cash flow, and an end market environment that while stabilizing, remains difficult.

I'll come back and talk a little bit more about 2010, but let me turn it over to Akhil to take you through the business unit detail.

Thanks, Greg.

Turning to page four, let me remind you that I will talk to the segment results adjusted for restructuring and nonrecurring items as we usually do.

Otis delivered an exceptional quarter with margin expansion of 300 basis points to a record 23.1%.

At constant currency, profits grew 11% on 4% lower revenues, as aggressive cost reductions, lower commodity prices, and continued strength in contractual maintenance more than offset the impact of lower new equipment volume.

Foreign currency reduced revenue by 5 points and profit by 6 points.

New equipment revenue was down 10% in the quarter excluding currency, partially offset by aftermarket growth.

At constant currency, new equipment orders in the quarter were down 16%, compared to declines of around 40% in the first half.

Orders in North America and Europe continued to decline, although at somewhat slower rates.

While orders in China were flat to the levels we saw in last year's third quarter.

Based on continued strong traction, and the benefits from foreign currency translation, we now expect Otis profits to be flat for the year, as compared with prior guidance of down $50 million.

We continue to expect Otis revenues to be down near double digits.

At Carrier, operating margin exceeded 10% again this quarter, despite 25% lower revenues.

Carrier continues on the path of aggressive transformation to a simpler, more focused, higher returns business.

Aggressive cost reduction, organizational restructuring and inventory management actions have been implemented in the face of steep volume declines.

These actions contributed more than 250 basis points of margin in the quarter.

Since September 2008, headcount has been reduced by nearly 6,000, or 14% of the workforce, before the impact of net divestitures at Carrier.

Carrier's organic revenue declined 14% in the quarter, the most significant volume decline again occurred in the higher margin transport refrigeration business with sales and orders down over 35% at constant currency.

The commercial HVAC business was down mid-teens organically and we saw new equipment orders there decline over 20% at constant currency.

US residential on the other hand was down organically mid single digit with some benefit related to final orders associated with upcoming refrigerant changes.

We remain confident in Carrier's prior guidance with profit growth resuming in the fourth quarter on the back of cost actions and easier revenue compares.

For the full year, Carrier revenues will be down mid-20s and earnings down about $525 million.

UTC Fire and Security delivered another solid quarter, with operating margin expansion of 180 basis points to 11.3% on 15% lower revenues.

Organically, revenues contracted 9% with comparable declines in both fire safety and electronic security.

Foreign currency translation reduced revenue 6% in the quarter.

Operating profit was up 1%, excluding the impact of FX, profits grew 9% as the benefits from integration of our field operations, organizational delayering, restructuring and cost controls more than offset the impact of lower revenues.

The new organizational UTC Fire and Security structure implemented in January and the ongoing transformation of field operations drove down overhead as a percent of sales by more than 100 basis points in the quarter from a year ago, despite lower revenues.

These initiatives are aimed at accelerating margin expansion, and creating significant operating leverage for the future.

We remain confident in UTC Fire and Security's 2009 guidance of flat profits despite revenues down mid-teens.

Now turning to Aerospace, on slide seven, revenues at Pratt & Whitney declined 10% in the quarter, driven primarily by lower overall aftermarket volume and Pratt Canada engine shipments.

Revenues were also impacted by net hedging activities at Pratt Canada.

Large commercial engine spares revenues were down approximately mid-teens and book-to-bill was slightly below one.

Engine shipments at Pratt Canada were down over 30%.

Operating profit declined 8% in the quarter.

The impact from lower revenues, particularly of higher margin spares, and unfavorable foreign currency impacted Pratt Canada was partially offset by benefits from restructuring, productivity improvements and higher military engine shipments.

E&D was favorable in the quarter, also in the quarter Pratt & Whitney benefited from a year-over-year net gain of approximately $35 million associated with several contract related matters and a partial sale of an investment.

Operating margin at 16.5% was up 40 basis points.

Pratt & Whitney continues to aggressively reduce operating costs and rationalized capacity in manufacturing operations, and maintenance, repair and overhaul networks.

However, these actions do not fully offset the impact from revenue declines.

For the full year, we now expect large commercial spares revenues to be down around 25% versus our prior estimate of down 20%.

As a result, operating profit is now expected to be down $150 million year-over-year, as compared with prior guidance of down $100 million, and revenues will be down double digits.

On slide eight, in the quarter, Hamilton Sundstrand revenues were down 9% with Aerospace aftermarket down high single digits, the industrial business down about 20% and Aero OEM down mid single digits.

Commercial spares were down high teens, while development revenues grew about 20%.

Operating profit declined 10%, primarily from greater volume reductions in the high margin businesses, partially offset by lower E&D and SG&A.

There has been little change to the order trends in the industrial business this quarter, down about 30%.

Commercial spares book-to-bill was about one with piece part orders flat year-over-year.

However, commercial spares provisioning orders rates remained depressed and were down about 45% as airlines continue to conserve cash.

In addition, E&D investment for the 787 program continues to be a challenge.

Hamilton continues to be ready to support first flight.

However, first flight pushout to the end of the year has limited our ability to reduce program investment at the expected rate in the second half.

As a result, we now expect Hamilton operating profit to be down in the range of $125 million on revenues which will be down high single digits.

Hamilton continues to reduce operating costs through workforce resizing and other actions in response to the challenging market conditions.

Turning to Sikorsky, operating profit grew 18% on 15% higher revenues.

During the quarter, Sikorsky shipped a total of 61 large helicopters, 51 based on military platforms and 10 commercial.

Year-to-date, 160 helicopters have been delivered and we remain on track to deliver 230 to 240 helicopters for the year.

Operating profit increase was driven by near record volume and tighter cost control.

Margins expanded 30 basis points to 9.5%, as benefits from higher volumes was partially offset by deliveries of lower margin international development aircraft.

Sikorsky remains on track to deliver 10% plus margins in 2010.

Although the commercial market remains a challenge, Sikorsky saw greater interest from customers this quarter.

We remain confident in Sikorsky's 2009 guidance of revenues up high teens and operating profit increasing $125 million.

With that, let me turn it over to Greg for a wrap-up.

Thanks, Akhil.

So maybe to sum up the third quarter, excellent execution resulted in continued cost reduction momentum, strong cash performance, in a stabilizing but still difficult end market environment.

Discrete cost reductions in the quarter were $400 million including restructuring.

Following $550 million of cost reduction in the first half.

Our margins continued to expand despite these lower volumes, and we are positioning the business for continued margin expansion when volume does return.

2009 we remain confident in our revenue estimate of about $53 billion, that's down 11% from last year as some downward pressure in our commercial Aerospace businesses will be offset by a weaker US dollar.

In the third quarter, the Euro was an average rate of $1.42, and we're now assuming [$1.46] Euro for the fourth quarter.

You'll recall that in July that our expectation for the Euro was $1.38 for the balance of the year, so a little bit of tailwind for the year.

Our full year 2009 EPS guidance as I said before is $4.10 and that's down 16% from last year.

Excluding restructuring and one-time gains, we see EPS down 8%.

The lower EPS drop-through is a result of our cost reduction actions which limited the impact of revenue declines in our higher margin Aerospace spares and transport refrigeration businesses.

As you look at Q4, you can all do the math and see that ex gains and restructuring costs, UTC will grow earnings in the fourth quarter, despite the continuing difficulty in many of our key markets.

As far as other guidance for 2009, as I said, we expect free cash flows in excess of net income.

On share repurchase, our guidance will remain at $1 billion for the full year.

And we're keeping our $2 billion place holder for acquisitions for 2009, even though year-to-date acquisition spend is only about $560 million.

We continue to have a number of good core opportunities in the pipeline, however, the timing of deals is difficult to predict.

There's no certainty this place holder will get used this late in the year and we'll remain disciplined in our approach.

As for 2010, just a reminder, Louis will be providing detailed guidance at our December 10th investor meeting in New York.

However, let me give you some preliminary thoughts to help you frame our outlook for next year.

Since April we've been talking about the key drivers impacting earnings outlook for 2010.

Positives, the negatives and the uncertainties around these key drivers.

Most importantly, order rate declines for most of our businesses appear to have stabilized, albeit at lower levels.

With the backlog of over $59 billion, we feel confident about the long-term revenue outlook for the Company and for 2010 we see a clear path to earnings growth on the back of continued cost take-out even if we end with flattish revenues given the current orders picture.

Okay.

On slide 11, while the revenue environment remains challenging, I would remind you as you can see on this slide that about 40% of UTC's revenues come from our aftermarket businesses.

Of these aftermarket revenues, over 50% is from the commercial and industrial segments and tend to grow modestly every year, driven by regulation, and an increasing installed base.

The commercial aero aftermarket should grow modestly in 2010 after being down about 15% this year, benefiting from higher air traffic and spare parts pricing although airline industry profitability will continue to put pressure on this revenue stream.

On the OEM side, over 50% of the revenues is derived from our commercial and industrial short cycle businesses and military Aerospace businesses.

Both of which are likely to grow in 2010.

On the other hand, the long cycle commercial and commercial Aerospace and OEM businesses will likely see further declines in 2010, especially in the commercial construction markets in the US and Europe.

And the business jet market.

So a tough revenue environment, but UTC's geographic and product balance gives us confidence in next year's revenue outlook.

Specifically, on restructuring for next year, we expect incremental savings of $300 million next year and a further $125 million of savings in 2011 from our 2009 restructuring actions.

That's on top of the $300 million we've already seen in our 2009 results.

That means $725 million of run rate savings by 2011.

We'll also see tailwind next year from significantly lower restructuring charges.

We currently have a place holder for 2010 of $0.10 to $0.20 of net restructuring versus the net $0.45 we'll spend this year.

The enabler for this aggressive cost take-out is our continuing commitment to the ACE operating system.

The process discipline of ACE allows us to continue to do more with less.

We're on track to have 70% of our operations at the ACE Gold and Silver level by the end of this year, and we've got an aggressive plan to have at least 70% of our key suppliers at this level by 2011.

Lots of runway left as the business units continue to drive towards industry-leading margins.

With our seasoned management team, significant after-market content and relentless focus on cost-reduction, we're well-positioned to grow earnings and out-perform again in 2010.

With that, let's open it up for questions.

Cecilia?

Thank you.

(Operator Instructions).

Our first question today comes from Deane Dray from FBR Capital Markets.

Thank you.

Good morning.

Greg, can you follow up the comments on the $59 billion in backlog, be interested in hearing this quarter what the -- how Otis and Carrier both finished in backlog and it didn't sound like you had cancellations or push-outs, but just any commentary there would be helpful.

The orders for Otis sequentially were flat.

So Q3 orders for new equipment in Otis were consistent with the orders in second quarter which was an encouraging sign for us.

Carrier commercial HVAC which is where the backlog is most meaningful was down slightly.

So I think overall we feel relatively okay with the backlog.

And Akhil, if you put that in months of backlog, what would that look like today?

Otis typically is about around 12 months or so and Carrier commercial HVAC is about six months or so.

And no issues with cancellations?

Push-outs?

No, the cancellations have been nothing unusual, very modest.

And how much would you attribute China's stimulus program?

You said that you're now seeing an uptick or at least flat in the quarter but how much would you attribute to stimulus?

I think you've got a couple of factors in China.

As Otis, as we said, orders were flattish year-over-year which was a good sign but actual sales were actually up in China for Otis and we're seeing -- stimulus is helping on the low end of the residential market, which is a strong point for Otis.

We also see some benefit at Carrier for some of the transport infrastructure projects although I tell you, the Carrier commercial HVAC business in Otis was still down in the quarter.

And just last question, if I could, regarding pricing, on both these orders that you're seeing today.

Pricing is tough, Dean.

I think China especially and we've been talking about this for a long time, there's lots of competition in China, especially on the low end of the market.

The business remains profitable in China at the OEM level but pricing is tough.

Okay.

Thank you.

Our next question today comes from Cai von Rumohr of Cowen and Company.

Thank you very much.

Your R&D was down, I think the last time you talked you were talking of it being down about $100 million for the year.

What do you see now?

We would tell you today it's probably about $175 million.

I think with the last guidance we gave was $100 million plus so it's probably down another incremental $50 million or so from that last guidance.

Okay.

And just generally, as you think about next year, is it likely to be flat or where would it go?

It's a little early I think to forecast E&D for next year.

I would tell you, there is pressure on E&D next year.

You think about at Pratt especially as the C series starts to ramp up, we get first engine to test, there ought to be some tailwind at Hamilton on 787.

We should keep in mind too, you think about all this E&D stuff, we're going to spend $3.6 billion this year, about half of that customer funded and half of that Company funded.

Although E&D is down in the quarter on the Company funded side, it's actually up more than $60 million on the customer funded side.

So again, we're not -- it's not like we're deinvesting in the business.

I think for next year, again what you're going to see is continued pressure on E&D as some of these programs start to ramp up again.

Okay.

And last question.

You gave us a lot of detail appreciated on kind of the order trends.

Could you talk about kind of the monthly patterns.

Were there any areas where September or early October really are starting to show that things are picking up or that things are continuing to be worse than expected?

That's a nice try, Cai.

We obviously aren't going to give monthly data.

It's tough enough on the quarter-to-quarter compares.

I would tell you there's nothing that we're seeing in any of the businesses, though, that would tell you that trends are materially different than what we saw quarter-over-quarter here.

Okay.

Thank you very much.

Our next question comes from Joe Nadol of JPMorgan.

Thanks, good morning.

Good morning, Joe.

First question is on Otis.

Great margins this quarter.

Greg, you've characterized this in the past as a 20% business but mix shift is definitely helping you here.

How sustainable as we look forward do you think 22, 23% might look?

23%, it is a record as we said.

It's up 300 basis points.

We've always talked about Otis having industry leading margins and 20% plus being sustainable over time.

Obviously, the mix shift with new equipment down 10% in the quarter, that gave us, what, 150 basis points.

I'm sorry, about 100 basis points of margin improvement.

The other big benefit we saw in the quarter was just good cost control, good cost out of the factory and we had some commodity tailwind.

We also had some pricing tailwind from last year as we were executing on the backlog.

So you like to say the stars align but really just excellent execution at Otis this quarter and it will continue next year.

Okay.

And then on the commercial aftermarket, sounds like in both your businesses there with big exposure, another down tick this quarter relative to last quarter and your outlook or your guidance for the year.

Just wondering as we get into Q4, we're starting to annualize obviously the financial crisis.

Are you looking for at least an upward inflection in the rate of year-over-year declines?

We had actually --

Declining negative numbers.

As we sat here three months ago, we really thought the back half of the year looked better than it did.

We thought commercial aftermarket would be down maybe 20% or the spares piece anyway, and now it looks to be down about 25%.

We're not anticipating, quite frankly, any recovery here in the fourth quarter.

We should see -- time is on our side here and the compares obviously get easier next year.

You think about spares at Pratt and then probably be down 25% for the year.

Next year they're going to be up.

You're going to get pricing.

You're going to get RPM growth modestly.

The airlines are still not making any money at all but we would expect spares are going to go up next year, just again, off of these very, very easy compares from the this year.

Okay.

And then Greg, just finally, on EPS next year, you're still saying up.

You have a $0.30 tailwind now from restructuring, taking the middle of your range for next year.

Are you willing to hazard a guess or maybe that's the wrong word, as to whether your earnings can be up, not including the restructuring tailwind, or not yet?

No, I'm not going to hazard a guess.

Again, Louis is going to be here in front of everybody in December in New York and we'll go through that on a detailed basis.

As I said, there's still some uncertainties out there.

We feel confident we're going to grow earnings next year.

I think the question really is what's going to happen with revenues.

Obviously, if revenues come in stronger, there's going to be a lot of tailwind for us but again, let's just hold off until December on a guidance range.

Okay.

Thank you.

And our next question today comes from Nigel Coe of Deutsche Bank.

Thanks, good morning.

So just want to confirm, the $0.07 negative from the Pratt Whitney Canada currency hedge, that's roughly equivalent in 4Q but then goes away in 2010?

Just to be clear, the $0.07 that we talked about, that's FX plus -- FX plus the Pratt Whitney Canada currency hedging.

Pratt Whitney currency is about --

$0.03, Nigel.

$0.03 of the $0.07 was Pratt Whitney Canada.

The rest was normal translation of foreign profits.

So the $0.03 is going to be there for 4Q then goes away in 2010?

Just as a reminder, Nigel, Euro in Q3 was still $1.42 on an average, compared to $1.52 last year.

So still headwind.

Still a headwind on FX in Q3.

Q4 compares get better.

Right.

Right.

Okay.

And then just again on the 4Q, what do you expect E&D to be at a similar level in 4Q?

E&D will be up sequentially from Q3 to Q4 as it typically is.

We're down year-to-date, 140, $150 million.

So it will probably down a little bit year-over-year in the fourth quarter.

Just on the sequential decline in E&D, did most of that occur in Pratt Whitney?

Actually, about $40 million of it was at Pratt, another 30 or so was at Hamilton.

The Pratt piece is really just timing on programs as we continue to see things slip to the right primarily on the MRJ program.

You also had the cancellation of the Columbus biz jet program from Cessna.

On Hamilton, that really was just a slowdown in spending on 787 finally.

Okay.

And then on the other cost savings, I think the last time you shared the numbers, $650 million of other cost savings coming through this year.

I mean, is that still the same number and to what extent do those costs kind of come back in 2010, 2011, based on what you know now?

I think as we look at it today, Nigel, I tell you, I think that the cost savings ex restructuring savings has gone from $650 to about $750 million.

Again, those costs are -- that's travel costs, that's furloughs, that's merit deferrals, that's also E&D down.

Again, some of those costs naturally will come back.

Merits -- we will have merit increases next year.

Furlough days, there may be some but that might be a bit of a headwind.

The fact is we're going to keep a lid on costs until we see revenues solidly return and I think that's the key here.

There obviously is going to be a little bit of headwind and all of that will be contemplated in the guidance for next year.

These guys have done a masterful job of controlling costs across the business and that's going to have to continue next year.

Okay.

Just to clarify, the delta from 650 to 750, roughly more than half of that came from E&D?

Yeah, that's correct.

Okay.

And then just finally on the restructuring, you've taken up by $50 million.

How would you characterize the pipeline of restructuring as we go into 2010?

Where could that go this year and you've already given some guidance for next year but maybe just this year.

We've got about $800 million of spending this year.

We've got about $100 million of costs from this year's programs that will trail into next year so you think about that $0.10 to $0.20, there's probably $300 million of restructuring, $100 million of that I would tell you is spoken for.

There are still lots of good programs out there.

A little bit longer payback.

Now we're talking about some factory actions, both domestically and internationally.

Tell you, Hamilton is going to come back with some additional cost take-out next year.

I'm sure Carrier and Otis and Fire and Security aren't done either.

Okay.

Thanks a lot, Greg.

Our next question comes from Jeff Sprague of Citigroup.

Thank you.

Good morning everyone.

Maybe just to focus on Carrier for a while.

First, Greg, just kind of big picture.

I wonder what inning you would say we are in kind of the restructuring and reshuffling at Carrier.

Obviously the distribution deal is done...

Tyler...

just announced this Israel thing the other day.

When you couple that with just kind of the physical restructuring actions, where are we in the process?

Jeff, we've taken out revenue equivalent to about $1.3 billion in the actions that we've initiated this year.

That includes the deal on commercial refrigeration in Europe, Beijer, the Watsco transaction, Tadiran, Tyler.

I'll tell you, there's still more to go.

I think the international res business, we continue to look to rationalize that.

There's probably another $1 billion of revenue restructuring that still has to happen.

Giraud and the team are doing a heck of a job executing on this.

It's actually amazing the margins are above 10% this quarter despite revenues down 25%.

So we're not done.

I think we're a long way from being done.

We talk about long-term, this needs to be a much higher margin business, 12 to 13% is certainly in sight but we're probably only in the third inning as I would characterize it.

Okay.

Great.

And I think your introductory comments suggested domestic trailer better at Transicold, but your overall comments I guess suggested still weakness.

So could you just discern the differences there?

I'm guessing maybe Europe and container still weak but US truck looking a little better.

Is that a fair characterization?

Actually Europe truck trailer is a little better as well, Jeff.

I think compared with, say, over 40% year-over-year order decline in Q2, there the Europe truck delivery was down high teens, so some sequential improvement there.

North America truck trailer as you guessed was the best.

But containers continues to be still very weak.

The shipping industry as you know is probably in a worse state than the airline industry in terms of profitability and that's causing some issues with the placement of the container units.

And what was the delta on North American, Akhil?

High single digit decline in orders.

Okay.

Do you have up shipments in that business in the fourth quarter on a year-over-year basis?

Flattish.

I would say.

A little early to call.

Some of these orders have become so short cycle in nature, Jeff, that we could get orders tomorrow which could be shipped in the quarter.

We do have the capacity to do that.

And just the state of play in US resi, we're moving off season but what is your view of kind of the inventories as we move off season here and how you think things would play as we think about the early part of the season next year.

Inventories remain at historically low levels.

I think the distribution channel has been doing a heck of a job in terms of managing inventories down so inventories are down about in line with the market.

I would expect if housing does pick up next year, as we expect, that we should see a rebound in the first half of next year as dealers have to restock.

But right now, we haven't seen that.

It's, again, a much better picture today.

It's down kind of mid single digits in the quarters on the US res side, but still not a recovery.

Finally, on Carrier commercial, I guess domestic specifically, to what extent if any are you seeing stimulus related activity, these federal energy retrofit programs and the like?

Anything moving the needle there yet?

I wouldn't say anything is really moving the needle on overall commercial HVAC in US was down substantially in the quarter.

Where we are seeing stimulus benefit in the Carrier side is at our NORESCO business, which is our government performance contracting business.

We've had some big wins there.

That was a business we bought last year to try and take advantage of some of this government stimulus money that was going to be directed to energy efficiency in the Federal Government infrastructure.

They have just done a tremendous job this year in terms of capturing programs but again, in terms of the overall HVAC equipment side it's still down big.

And just thinking about NORESCO, can you give us a sense of order of magnitude of what is out there to bid upon and what kind of win rate you're seeing?

Jeff, NORESCO is one of the 16 contractors which have the ability to bid on the $80 billion worth of contracts over the next several years that the government has come up with.

So the long-term potential is very, very strong.

It is a relatively small business inside the Carrier portfolio and we're continuing to build that as quickly as we can.

Thanks a lot.

We'll take our next question from Sam Pearlstein of Wells Fargo Securities.

Good morning.

Greg, just to follow up on that comment you just made about what's going on in North American residential and the destocking that's happened within the channel, you mentioned $450 million decrease sequentially in the inventory levels across UTC.

Can you just talk about -- I mean, as order rates start to stabilize, when do we start to see that inventory start to pick up or is this a permanent reduction, would you say.

We still have lots of inventory, Sam.

Think about that $450 million of inventory that came out in the quarter, about a third of that actually came out at Carrier.

Again, Carrier's done a really nice job of managing working capital this year.

Their cash flow has been outstanding but you would expect that, as the business continues to contract, Giraud and team have done a good job of taking the working capital out of the business.

It's the same I think in the channel.

Inventories will have to grow at some point when we start seeing a recovery in demand as we would expect early next year.

So there might be a little cash pressure in the first half next year at Carrier, specifically, but too early to predict exactly the timing of that.

On the aero side, though, we have still significant opportunity on the inventory side, so I think there is balance inside of UTC portfolio as well.

Lots of inventory.

And then just separately, I know you've had this $2 billion place holder for acquisitions all year.

A couple things around that.

One is if you don't spend that, how much of that can we see move over to buybacks and kind of approach in your target for the year-to-date.

And then secondly, without a lot of acquisition spend I'm wondering why I saw goodwill looks like that ticked up quite a bit from June to September on the order of $450 million without much activity.

Let me take the second piece of that question first, which is the goodwill tick-up is math because the FX movement on us so we just revalued goodwill based upon the change in the translation rates.

That's really the only big addition besides GST to the goodwill pool in the quarter.

As as far as as the $2 billion place holder versus the $1 billion of share repurchase, we certainly will spend $1 billion on share repurchase and that number could certainly tick up higher here in the fourth quarter.

As I said before, though, the M&A pipeline is very full and there's a lot of opportunities we see in the core of the business.

It's just really difficult to predict when this stuff is going to actually happen.

But I feel better about the M&A pipeline today than I have in a long time so again, if M&A doesn't happen, you'll probably see more go to share repurchase but I don't want to give you a number at this point.

Okay.

Thank you.

And our next question comes from Heidi Wood of Morgan Stanley.

Heidi are you there?

Ms.

Wood, your line is open.

Please check your mute button or lift up your handset.

Our next question comes from Doug Harned of Sanford Bernstein.

On Pratt, in the margins, the margins were very, very good.

But I look at this and I'm trying to understand how you get there.

I mean, with lower -- basically lower large commercial spares, business jet is down, what have you been able to do to keep margins up at this level?

Well, a couple things.

I would tell you, first and foremost, it's just been cost control at the business.

But also, the business is more than just commercial spares and Pratt Canada.

The military business had a very, very good quarter.

Cost take-out across the business has been strong.

Obviously, we had a benefit from this one-time -- these contractual adjustments which gave us about $35 million.

Absent that $35 million, I think margins have been down about 50 basis points or so.

So it is a good quarter at Pratt.

It's not quite as good maybe as the headline looks when you adjust out for the one-time contract issue but I tell you cost traction is still very good and they've got a good portfolio.

Remember Pratt Canada, only half of that business is business jets.

And they've got a large aftermarket up there as well which is --

military business, Greg, that was up in the quarter as well with strong shipments in the military side so that balances out.

So there's a mix piece as well going on here it sounds like, a positive mix.

To me it looked like a negative mix with the pieces I talked -- I mentioned, drop.

You're saying it could be interpreted positively in the military.

You're right, on a broad scale there is a negative mix but keep in mind Pratt Canada started very early with very aggressive restructuring actions late last year which has helped them bring the costs down pretty much in line with the reduction in volume so they've neutralized the volume pressure through very aggressive cost actions which have been helpful.

You've also got tailwind from E&D being down in the quarter.

Okay.

And then on Otis, again, great margins and you talked a little bit about the mix, that there was a benefit from that.

But when you look at the decline on the OEM side in sales, I guess two questions on this.

One is first the decline in actual sales seems to be coming earlier than it did in past cycles.

Does this reflect a push-out in projects because it's happening earlier than I would expect from when the order decline took place last year.

The order declines started really in the fourth quarter at Otis last year.

And I think we haven't really seen much in terms of order push-out but as we execute on the backlog, just during the course of the year we're seeing new equipment sales continue to go down, down 10% this quarter and quite frankly they're probably going to be down next year just because commercial construction markets are not going to be up in the US and Europe.

And when that happens, and you see these lower volumes, are you seeing lower margins on the OEM portion of the business?

Because certainly you don't see it on Otis as a whole.

No, that's not -- the reality as Greg mentioned earlier, Otis has been very, very aggressive with cost actions, again, both in the factories, they've had the tailwind from the commodity side.

So the new equipment margins actually are up year-over-year in the quarter for Otis in spite of the decline in volume and that's a credit to the team on the aggressive cost actions that they've taken.

So no impact, loss of operating margin at this point.

Greg mentioned some benefit from pricing coming through as well from the actions taken late last year so there is benefit of pricing, there is benefit of commodities and aggressive cost actions on the factory and field side.

Very good.

Thanks.

We'll go next to David Strauss of UBS.

Mr.

Strauss, your line is open.

Good morning.

David.

Greg, what was the impact of pricing in the quarter versus commodity costs?

I think most of it was commodity, David, as you would imagine.

Pricing was a little bit of a benefit at Otis but on the Carrier side we saw some decline from the pricing pressure so pricing was negative at Carrier and I think the Aerospace side there was a slight negative as well.

But overall commodities were a big part of the benefit this year -- this quarter.

Okay.

Do you have number overall what that was in the quarter.

About $80 million.

Most of it commodity.

Eight, zero.

Positive.

All right.

Thanks.

And Greg, obviously with the movement in the dollar, it's going to be a tailwind next year.

Could you just -- if it holds here, just help quantify what that might be.

The math is pretty simple as we talk about it.

You get about -- for every $0.01 movement in the Euro versus the dollar, we pick up about $10 million in full year EBIT.

Just maybe a caveat to that, though, although as we saw last year in 2008 as the dollar continued to depreciate versus the Euro, what we saw is an offset in commodity costs and so I would just be cautious about taking all of this good news from currency to the bank for next year.

As we look at it, we saw copper yesterday spike up to just about a 12 month high.

We've seen oil at a 12 month high.

The dollar weakness although it's good on the translations side, it doesn't necessarily help on the cost input side so again, $10 million per $0.01 but with caution.

Okay.

And on Otis new equipment thinking about into 2010, I think you had said last call around a 5% decline based on what you were seeing on the order rate side.

Is there any change in your thinking there, given order rates have stabilized.

I think, again, as we look at the North America and European OE side of Otis, there's really, although stabilized, they're still down significantly year-over-year.

I think the one bit of good news that we've seen of course in China where we saw flattish orders this quarter and revenues actually up, that might actually offset some of the weakness that we're seeing on the North American, European side for next year.

But around 5% down, probably not a bad place holder.

Just give us another month or so here when Louis will stand up and take you through the exact outlook for the year.

Okay.

And last one.

Any additional update on the F35 engine, some of the problems that you had on the second gen engine?

We did have a test failure on the second engine.

This is the cost reduction version of the engine.

The original engine, the engine that's on the flight test program, is still performing flawlessly out there.

We've got about 12,500 hours of test time on this current engine.

We've got 170,000 hours on the actual core here, look at the F-119 and the F-135.

The problem that we found was really pretty straightforward on this cost reduced version.

It was in essentially eighth year of testing and we were testing it at supersonic speeds.

We had a fatigue problem.

They found a root cause.

Not a problem.

Was not going to add to the cost significantly or the schedule.

So again, I think the engine itself is rock solid and we look forward to supplying the government for a long time on this program.

Thanks, guys.

We'll go next to Myles Walton of Oppenheimer.

Great.

Thanks.

Good morning.

And really good cash quarter.

Was wondering if I could follow up on the aero, large engine spare side where you now expect to be down 25% versus 20% for the year.

Greg, is there any way to quantify how much of that is permanent removal as a result of retirements of older aircraft, weighted towards, versus more cash conservation measures on the part of the airline that would come back?

I think, Myles, it's a combination of both, obviously.

I think there are some aircraft that are not going to come back that have been cannibalized, will be too expensive to bring them back.

I think that's a small piece of the parked fleet today.

The example I've been talking to investors about over the last couple months, you think about JT-8, JT-9 spares which back in 2001 were $1 billion of revenue to Pratt at pretty good margins.

Today, for this year, it's only going to be $100 million.

That's going to come back.

A piece of it, I mean, it's not going to stay at $100 million.

The MD-80s will come back that are parked in the desert.

Some of the older, the really old JT8s won't but the majority of the fleet will probably come back at some point as demand returns.

We've also got good long-term prospects for growth with the V-2500.

V-2500 continue to add 300 to 350 engines a year out into the fleet and we've seen throughout most of the year, spares growing in that business.

And I guess the other question is with respect to your airline customers.

As they get access here to the credit and capital markets, do you see them letting up at all on the cash conservation measures?

Are they putting it more toward fuel hedges.

Are you seeing any let-up on the cash conservation.

Today we have not seen any.

I think it's most evident, you look at Hamilton Sundstrand where spare parts are actually kind of flattish year-over-year but the provisioning which are capital expenditures for the airlines are down more than 40%.

We have seen, again, no indication that's the airlines are going to let up on cash conservation and quite frankly, I don't think they can afford to right now until traffic comes back and traffic will come back but probably not until sometime next year.

Certainly not going to happen this year.

Okay.

Great.

Thanks.

Having no further questions in queue, I'd like to turn the conference back over to Mr.

Greg Hayes for additional or closing remarks.

Thanks very much, Cecilia.

Thanks to everybody.

Just summarize on the quarter.

Good cost traction, good cash and solid margin performance, all the hallmarks of a good UTC quarter.

Markets are still tough.

We're well positioned to grow earnings in 2010 and we'll see everybody in New York in about six weeks.

Thank you very much.

That does conclude today's conference, ladies and gentlemen.

Again, we appreciate everyone's participation today.