實耐寶 (SNA) 2007 Q3 法說會逐字稿

Please stand by. We are about to begin. Good day, ladies and gentlemen, welcome to the 2007 third quarter earnings conference call hosted by Snap-on Incorporated. At this time, all participants are in a listen-only mode. At the conclusion of our remarks we will conduct a question-and-answer session. (OPERATOR INSTRUCTIONS) I would now like to introduce your host for today's conference, Marty Ellen, Senior Vice President of Finance and Chief Financial Officer. You may begin your conference, sir.

Thank you, Tony and good morning. Thank you for joining us today to review Snap-on's third-quarter results. With me this morning are Jack Michaels, Snap-on's Chairman and CEO and Nick Pinchuk, Snap-on's President and Chief Operating Officer.

I will begin our review this morning with our third-quarter financial results. Nick will then provide some additional commentary and Jack will share his closing thoughts. Afterwards, we will take your questions. Consistent with past practice, we will use slides to help illustrate our discussion. You can find a copy of these slides on our website, next to the audio icon for this call. These slides will be archived on our website along with a transcript of today's call. Any statements made during this call relative to management's expectations, estimates or beliefs or otherwise state management's or the company's outlooks, plans or projections are forward-looking statements and actual results may differ materially from those made in such statements. Additional information and the factors that could cause our factors to differ materially from those in the forward-looking statements are contained in our SEC filings. This call is copyrighted material by Snap-on Incorporated. It is intended solely for the purpose of this audience; therefore, it cannot be recorded, transcribed or rebroadcast by any means without Snap-on's express permission. With that said, I will now begin our discussion with slide four.

We believe our third quarter result showed the continued progress being made across all of our businesses in improving quality, delivery and customer care, driving innovation, strengthening our brands and reducing overall complexity and costs. These improvements are facilitating our ability to increasingly capture profitable growth opportunities which were demonstrated again this quarter with sales up 14.5% and operating profits up almost 59%. Net sales of $681 million in the quarter were up $86 million or 14.5% over last year with sales increases across all segments. The November 2006 acquisition of Business Solutions contributed 8.2 percentage points of growth, while currency contributed 3.3 percentage points. The balance of our year-over-year growth is 3%, but when you factor out the OEM facilitation business, whose revenue comparisons are affected by the timing of OEM programs, our organic growth across all of our other businesses was 8.6%. As a measure of productivity improvement, sales per associate were up 10.6% from comparable 2006 levels on a trailing 12-month basis. This is also up sequentially from the 9% improvement reported last quarter. In our Financial Services segment, revenue increased 4.5 million, and operating income improved 2.6 million due both to improved yields and lower discount rates.

Consolidated gross profit of $301 million represented 44.2% of sales, up 70 basis points from the 43.5% earned a year ago. We incurred $5.2 million of higher material and other manufacturing cost increases, but they were more than offset by $7 million of savings from rapid continuous improvement or RCI initiatives. Higher year-over-year LIFO related inventory costs negatively affected the comparisons by 5.7 million. The year-ago quarter included $2.7 million of LIFO benefits, which improved last year's gross margin by 50 basis points, while this year's quarter includes $3 million of LIFO charges, which lowered the gross margin by 40 basis points.

Operating expenses of $234 million increased $18 million from 2006 levels. The increase includes Business Solutions, as well as higher selling expenses and $4.9 million of unfavorable currency translation. These increases were partially offset by $2.4 million of gains on facility sales and 1.7 million of benefits from ongoing RCI initiatives. Year-over-year restructuring costs were $2.1 million lower. The contributions from RCI are clearly eliminating waste and allowing us to better leverage our spending. As a percent to sales, operating expenses improved from 36.3% of sales last year to 34.4% this year.

Operating earnings of $72 million for the quarter were up almost 59% from 2006 levels, reflecting both the earnings contribution from higher sales and nearly $9 million of savings and improvements from RCI initiatives. As a percentage of revenues, operating earnings improved to 10.4%, which is up significantly from the 7.5% earned a year ago. It is important to note that on a trailing 12-month basis through September, we have achieved an operating margin of 10.2%. We were at 7.7% for the same period a year ago before the litigation settlement, and at 6.7% two years ago. We are pleased that we have achieved this through both cost reduction and growth.

Interest expense is up $7 million year-over-year as a result of higher debt levels from the Business Solutions acquisition. Our effective income tax rate for the quarter was 34.5% as expected. Diluted earnings per share from continuing operations of $0.70 in the quarter were up significantly, about 49% from the $0.47 earned last year. Clearly, the improvements being made through the execution of our core initiatives are resulting in a solid operating platform that we believe is beginning to deliver higher levels of sustained profitable growth. With that as an overall summary, I will now turn to our segment results. Please turn to slide 5.

Third-quarter sales of $262 million for the Snap-on Tools Group were up over 7% from 2006 levels. In North America, sales increased 5.4% year-over-year, largely due to the improved performance in the U.S. In the U.S., sales improved 4.1% year-over-year, despite a slight decline, less than 1% in the number of franchisees. Growth included higher sales of mid-tier products as well as our expanded RWD product offering together with improvement in sales of Snap-on branded hand tools and tool storage. We are pleased where we are in the execution of our core strategies, including those relating to improving the franchise proposition.

International sales in the Tools Group also increased, with sales up over 15%. Without currency, sales were up 9.3% on continued strong sales performance, including significant gains in the U.K. and Australia.

Gross margin trends in the Snap-on Tools Group were significantly impacted by the effects of LIFO that I previously mentioned. At the Snap-on Tools Group level, LIFO lowered gross margin for the segment by almost 100 basis points in 2007 while in 2006, LIFO added 120 basis points to the gross margin.

Operating earnings for the Tools Group of 24.6 million were up nearly 9 million from prior year levels. Currency translation contributed about $800,000 of this increase. As a percentage of sales, operating earnings improved significantly, up 300 basis points from 6.4% of sales in 2006 to 9.4% in 2007. Year-to-date through September, the Tools Group has reported an operating margin of 10.6%.

Turning to the Commercial & Industrial Group on slide 6, segment sales of $328 million increased 14% over 2006 levels, 10% without currency. About half of the organic sales growth came from our Worldwide Industrial business. Also, contributing to the increase was our European Hand Tools business, our global Equipment business, which reported particularly strong sales gains in Europe and growth in Asia.

As a percentage of sales, operating expenses in the C & I group improved from 28% last year to 25.7% this year, reflecting leverage on higher sales and contributions from RCI. Operating earnings of nearly $33 million for the group were up over 40% year-over-year. Currency added about $900,000 to operating income. We did complete as planned during the quarter the -- the migration of production from one of our Swedish plants and we sold the building. The $1.4 million gain on sale of the building is included in these third quarter results.

The Diagnostics & Information Group is shown on slide 7. There are a number of large items affecting these comparisons. The acquisition of Business Solutions last November added $48.6 million in sales. And sales of our core Diagnostic & Information products grew 10.3% in the quarter. Offsetting these increases, however, was a sales decline in our OEM facilitation business which is now completing a major facilitation program in Europe. The wind down of this program alone caused $22.5 million of their decline. Gross margin in the D & I group improved to 45.9% in the quarter from 37.7% a year ago, reflecting the continued shift in sales to higher margin, higher value-added information products. Operating earnings of $22.2 million in the quarter were up $6.3 million from prior year-end and as a percentage of sales improved from 12.5% in 2006 to 14.6% in 2007.

Now let me turn to a brief discussion of our balance sheet and cash flow. As seen on slide 8, receivables and inventory management continued to improve with days sales outstanding and inventory turns both improving. DSO dropped to 72 days from 75 days compared to the same period a year ago while inventory turns improved to 4.6 times from 4.2 times. As you would expect, inventories and receivables were significantly affected by currency, increasing in total about $36 million from year-end. For the most recent 12-month period, and as adjusted for the acquisition of Business Solutions in late 2006, pretax return on invested capital improved substantially to 18.4% from 14.1% a year ago. Our net debt position at third quarter end is $435 million. Our net debt to total capital was 26.7%, down from its high of 31.5% shortly after the Business Solutions acquisition.

Turning to slide 9, cash flow from operating activities in the quarter remain strong at $59 million. Significantly affecting the third quarter comparisons of cash provided by operating activities are changes in operating assets and liabilities, particularly caused by the timing of payments of accounts payable, which this year consumed cash of $20 million, but which a year ago provided $15 million of cash flow. For the first nine months of 2007, we have deployed about $120 million of our free cash flow to both debt reduction and shareholder distributions, compared to about $65 million over the same period last year. This concludes my remarks on our third quarter.

Now I would like to briefly review with you some financial considerations for the balance of 2007. As we said in the press release and have summarized on slide 10, we expect continued year-over-year operating and earnings improvements for the remainder of 2007. The first nine months of this year, we spent $16.5 million on restructuring initiatives. We currently expect this full-year restructuring cost could be as high as $25 million, which is down from the $28 million previously communicated. We continue to anticipate that capital spending for 2007 will be in a range of $55 million to $60 million, and that depreciation and amortization will be about $70 million. Because of higher debt levels from the acquisition of Business Solutions, we expect to incur approximately $25 million of increased year-over-year interest expense. And finally, we anticipate that our effective tax rate for the quarter -- for the fourth quarter of 2007 will approximate 34.5%. Now, I would like to turn the call over to Nick. Nick?

Thanks, Marty. For those following the slides, my comments are outlined beginning on slide number 12. I would say we are in -- I would say our third quarter represents another encouraging step on the path of improvement defined by our strategic initiatives. We are particularly pleased with the balance of the progress, both volume gain and cost reduction contributed substantially to our improvement in this quarter. I am going to landscape that for you in the individual groups in a minute, but before we go further, I want to -- I want to recognize that our continuing progress is the clear and direct result of our Snap-on associates around the world. My thanks to all of you for your contributions. They have been extraordinary. I also believe that it is important to highlight the role that great product plays in our performance. Innovation has been an important part of Snap-on's strength since its founding. In the past quarter, we have again seen more tangible evidence of that strength. We are extremely pleased to have received three of Motor Magazine's 2007 awards for innovation. They are pictured on the slide. The first is the Snap-on Variable Length Extension. It is a spring-loaded device that increases productivity when you are working in tight spaces. The second is the BFH 800 Wheel Balancer. It uses Snap-on's unique laser-enabled systems and it creates the fastest balance in the industry. And the third, is the ETHOS, which is the unit which provides great diagnostic power to entry-level technicians. The products so recognized, span a range of our operating divisions from tools to equipment to diagnostics, so we are pleased about that. At Snap-on, innovation is an essential part of our ongoing commitment to our customers and it is a really key element of our growth going forward. In that regard, we are proud of the recognition we consistently receive from both our -- both the industry and from our customers. Now, let's turn to slide number 13, to our individual operations.

Regarding the Snap-on Tools Group, we continue to work both on the outside, making our franchise proposition better, and on the inside, improving supply chain and creating -- and creating unique product offerings, just like the ones we just discussed. And in those efforts, a strong and sustainable platform for profitable growth is being established. Speaking of our franchisees, they continue to get stronger. The key health metrics for all their businesses are moving in the right direction. Their sales are growing and the franchisee turnover is declining, both very favorable indicators. Beyond that, expansion of our mid-tier and RWD initiatives are contributing substantially to our business. And our franchisees have recognized the benefit and have said so.

Now, having said that, we can't lose sight of the importance of cost reduction in our COT. And on the inside when we talk about supply, we focus on something called complete and on-time order fulfillment or COT as we call it, as I just mentioned. In that dimension, we are sustaining our progress on high volume SKUs, COT is about 93%. Much improved where we started and is well up from the mid-80s where we were just two years ago and our franchisees have seen the difference, and they have benefited from the progress. Now that said, we can't lose sight of our breakthrough goal, which is, after all, 99%. So, we still have much more to do and we still have substantial opportunity. And in that context, we see rapid continuous improvement -- rapid continuous improvement process or RCI as we call it for short. We see that process as a decisive growth enabler. To be sure, our operations have made substantial growth or substantial advancement in reducing cost and raising productivity with RCI. But that process has also been effective in improving our supply chain, making our distribution system more efficient and our factories more flexible. And all that makes it possible for Snap-on to offer the widest range of products in the industry, providing solutions for more customers and, of course, expanding and driving sales growth. So, our effort in the tool business is clearly working. The metrics say so, and we talked with our franchisees, and they second that conclusion. But we have more to do and more scope for improvement.

Turning to the Commercial and Industrial Group, the operations continue to demonstrate growth, both in existing territories and emerging markets. Strong gains this quarter were achieved by our Industrial Division, by the European tools operation, and by Asia-Pacific. I think it's -- it is of particular note is this -- is -- is the successful -- I think of particular note is the successful ramp-up of our second China plant in Kunshan. It's demonstrating a successful marriage of low-cost production with advanced know how and is ahead of schedule in producing state-of-the-art saw products for customers throughout the region. We are also continuing the Commercial and Industrial Group's efforts in cost reduction. During this period, we closed the Enkoping plant. That facility had been our primary hand tool operation in Europe and its sourcing has been redeployed to lower cost facilities and are now becoming fully engaged in cost, effectively meeting the needs of our European customers.

And in the Diagnostics and Information Group, the Business Solutions acquisition continues to meet expectations. As Marty pointed out, the difficult sales comparison for diagnostics in the quarter is due to the winding down of a major OEM contract in Europe. That program involves sales to about 8,000 dealers-- it is nearing completion with substantially fewer deliveries in this period compared to last year. But the total group's margin showed strong expansion in the quarter which primarily reflected higher value and unique capabilities of our information-based products. Investments in data content and customer support are paying off and are paying off with increased customer retention rate for subscriptions, to our shop management and software packages that provide both shop management and repair data.

Overall for the corporation, the business fundamentals, safety, quality, delivery and cost are all improvements. We are recording encouraging and I have to say, repeatable achievements. Most importantly, we are seeing progress in the underlying processes that will support more aggressive levels of profitable growth. This quarter provided a glimpse of that expansion. Our organic growth in the period excluding the OEM wind down was more than 8% and it was balanced across the corporation and several customer bases over multiple geographies.

We believe strongly that Snap-on has considerable runway for increased expansion and further improvement along several dimensions. With our inherent strengths in product, brand and people, improving processes and growing ability to execute, we feel confident that the corporation is in a great position to take full advantage of the abundant opportunity as we go forward in the quarters and the years to come. With that said, let me turn the call over to Jack for his closing comments. Jack?

Thank you, Nick. You know before you, you have -- you should have a document on your slide that is labeled "Who We Are." This is a guiding document for our entire worldwide organization. And you can see our beliefs, our values and our vision, but clearly understanding our mission. Now, as Nick just talked about, the importance of our business fundamentals, you see the safety, quality, delivery, which is our complete on-time deliveries, innovation and costs -- obviously as you look down on the belief column, you can see those. And you see -- understand how when they truly hang together can provide a sound platform for aggressive profitable growth. Now, as I look at the many areas where we are making improvements, and most importantly how we are making them, I am beginning to see the development of our own business model. A set of documented sustainable processes, which honestly, I don't think we have had in the past that aligned with and support execution of our strategies. There may be nothing more powerful and important for our future success. Now, there are a number of well-known and truly successful companies who have done this and their success is admirable. Now, we admit today we are not at those levels. In fact, since I know someone will ask me I will ask and answer the question now. On a scale of 1 to 10 where 10 is never achievable, where are we in our transformation? Maybe we are at 3, perhaps 3.5 and moving towards 4. That should help you understand how much more additional opportunity I see for Snap-on. Our management team is focused and committed. And the organization is becoming increasingly enthusiastic about our opportunities as they see what we have been able to accomplish. And I want to thank all of our associates for their efforts and contributions and for their continued support. Now, operator we will open the call for questions.

Absolutely. [Operator Instructions] We will pause for just a moment to assemble the question roster. And we will take our first question from Alexander Paris at Barrington Research Associates.

Good morning, great quarter.

Good morning, Alex.

But you expect that nowadays, anyway, right?

Absolutely.

I just want a clarification on this OEM facilitation contract. You called that a wind down. Are you really talking about -- you just -- you had -- establishing the contract last year, you are just having a negative comparison against a very strong year-ago?

That's right. What it is -- this is Nick. The contract is fundamentally to supply an essential diagnostics to a finite number of dealerships in Europe. And as you supply them, as you work your way through the system, you have fewer and fewer. So, at this point, we are supplying them to the last few trailing dealerships and then the contract is ended.

This isn't one where you're running the book on a broad range of products for --

No, no. That is the other part of the business. The EQS business has two sides. One is you are in effect like a distributor.

Right.

You provide -- you provide a wide range of products for dealerships. And that is an ongoing basis. You have a contract with them. And you can gain the contract or lose the contract, but it tends to be start up from the beginning at almost full level and then end very abruptly. This is a particular contract for a particular device, which we call an essential diagnostic that addresses a certain set of models for -- for one of the OEMs in Europe. You roll it out to the dealerships, and once all the dealerships have facilitized themselves, the program is over.

Oh, I see. Okay. Thank you. I just want I see -- would -- you had really good margin improvements on operating basis overall in all the segments. Can you just review, just very briefly what your targets are, longer term over the next couple of years?

Alex, this is Marty, and I -- I know we have said this before. If you look at the mix of our current businesses today, the way we think about the model, say out to 2010. Gross margins in and around the mid-40s and operating expenses in the very low 30s. Yielding sort of middish, mid-teens or so operating margin which is, as we've said before and truthfully just puts us really where many other industrial companies are operating today.

And this would be kind of a gradual improvement toward that range?

Yeah. But I am also pleased to say that when we set -- we had set a previously lower expectation for profitability in 2008, our results and where we are in our key strategies and initiatives tell us we are probably ahead of schedule.

Okay. Thank you. Just one other kind of a knit-picking question. You mentioned in those products that laser re--a wheel balancing system. Is that your own that you developed or is that someone else's that's --

No, it is ours. It fundamentally takes a laser beam and profiles the tire and therefore, by doing that profile understands where is the imbalance is in the tire. It is very effective to watch. You spin in the tire for a few revolutions. You understand where the imbalance is and the laser will pinpoint exactly where to place the weights.

What is the price of the product to the --

You know, I want to say that the price is around, what, maybe $4,800 -- no, sorry, a little bit more than that, more like $6,000.

Because it seems to me like that is a pretty major breakthrough. I know there are systems out there being sold to OEM companies to go on the production line -- but I have always heard that although it is great they'd have to get that down to a decent price before they can sell that to dealers. Is that a -- sounds to me like that is a pretty good breakthrough for a very good product.

It is a very good breakthrough. Before I have a number of people beating down my door over pricing. It is more like -- more like $6,700, $6,800 in terms of the street price are up. Approaching $7,000, but the thing about it is, this is a great productivity advancement and actually if you look at our -- if you look at our equipment progress over the last several quarters, there has been tremendous advancement in our wheel service position, particularly in Europe but also in the United States and it has been fueled by this kind of thing.

The wheel service business in -- in automotive repair is going more toward imaging, either taking a picture -- either in alignment where you take a picture of the wheels and -- and create an alignment around that picture or profiling the tire. And Snap-on, I think, arguably is further down the learning curve in imaging technology than any other -- then any other competitor. It has been offering products like this like our imaging aligners and like this laser-guided balancer and the share -- and the share is -- is moving forward showing that. After all, this is what we believe we are about. It is part of Who We Are. It represents some -- the most valued productivity solutions in the world. The balancing here literally is the fastest in the industry. If you are in a shop, an OEM or tire shop, and you move volumes through that shop, you get great -- you get great advantage to this and customers are starting to see this.

Great, thank you very much.

We will go next to Jim Lucas at Janney Montgomery Scott, please go ahead.

Thanks. Good morning, guys.

Good morning, Jim.

Thanks for anticipating the question, Jack.

You are welcome.

A couple of housekeeping questions first. If -- as the portfolio has changed here, could you bring us up to speed in terms of, number one, if you look at the Commercial and Industrial business of tools versus equipment, how that is comprised, and not specifically for C & I but the overall company, also give us the geographic breakdown today.

Jim, in terms of the C & I segment, the tool -- the equipment business rather the under car equipment basis -- business is roughly one-fourth of the total segment sales.

Okay.

In terms of total geographic split of our revenues on a global basis, a little more than half is in the U.S. with the balance outside of the U.S.

And is that in terms of Europe versus the emerging markets. That is what I was trying to get a handle on this.

Today -- yeah, I mean, today, clearly there is much more in Europe than in Asia. And that's why Asia -- we are doing well in Europe as are a lot of companies, but not just because the economic situation there because as Nick said, we have -- we've really done a lot in innovation, probably more than we adequately could cover on this short call. Asia is an enormous opportunity for us. I mean, we are growing there at 18% in the quarter. Yeah, it is a relatively small base, but lots of opportunity. As Nick said we expanded our factory in Kunshan. We are going to make other investments in China in the near term. We've got some exciting plan, I think. And I don't know if we are a late entrant or not, but this there is clearly lots of opportunity.

I think this is important -- this is Nick. I think it is important to realize that we really started in Asia about three or four years ago. And what we are doing is we are building a product line and a distribution. And it is accruing to us pretty effectively now, but we are still in early days in positioning the proper product line in Asia for taking full advantage of that. The good news about that is the Asia market is growing. It is attractive but it is pretty much unclaimed. So, there is lots of -- lots of what I would call runway for expansion with the proper products and the proper facilities in place, and we are getting those.

Okay. And the number of dealers at the end of the quarter?

Okay. Jim, let me connect some dots around the -- you are talking about the franchise system.

Right.

Round numbers, we had about 3,000 franchisees. So, let me give you some -- some data points around -- what our franchisees and very important our franchises. Because as everybody know that we lost some franchisees over recent periods. Some of our better franchisees have taken on second franchises which allow us to cover the market better. So, if you actually look at -- and franchises -- franchises is really the way to think of our market coverage. This quarter was flat when it comes to franchises -- the franchisee count was down 8/10 of a point, I said less than 1% in my remarks. But in terms of market coverage because we picked up more -- more seconds. What I didn't say in my prepared remarks but should say really here is that the thru-put, the sales through the franchisees - and we care about both - we care of market coverage in terms of franchises, we care about the health of the franchisees. You know, we picked up thru-put in terms of year-over-year growth in sales to our franchisees, a fairly strong 8% and it was roughly split in thirds around our RWD growth, which is really market share gain that we are taking away from warehouse distributors, our mid-tier sales. Much of that we believe is market share gain and then still a third, over 2. 5%, coming from Snap-on and I hate to use the word core -- but you may think about it some of our core or more historic products. So, that was pretty good. The reason that the U.S. reported only about 4% year-over-year growth. They had good diagnostic sales. From an accounting point of view, we defer some of that revenue because there is some software we'll deliver in later quarters. That revenue will come back in later quarters. Nick commented on lower turnover. That had an impact. So, we are really pleased with the level of velocity of through-put and year-over-year growth in that through the franchisees.

And I can add some local color to that. I just came back from the franchisee conference in Canada, which had about 300 people -- 300 franchisees, 300 people and 300 franchisees in conference in Calgary and I would say the mood was tremendously upbeat. When we look at the -- when we look at the metrics and we see van sales up, the purchases up, and we see all the other metrics going in the right direction and turnover down, I have to report that it is reflected in the attitudes of our franchisees. They are dedicated and they are optimistic about the future. They know we have more to do, but they recognize the improvements that have been made and they say that it's enabling them for further advancement and having a favorable outlook on their business now.

Okay. Final question, philosophical one. Jack, you talked about the -- that a -- that a system is being developed a lot more standard work, documented processes in place. As you look at the progress that has been made here at Snap-on, and you think about what is left to do, can you maybe frame from a priority standpoint if you were looking out over the next 12 to 18 months of -- of what you see as kind of the pressing priorities still?

Yeah, I think -- Jim, I think we have made improvements on all fronts, but nonetheless, I think the -- the greatest area of improvement for us going through 2008 is going to be focused on productivity improvement. Now, the way we measure that, it is at a high level. If you get down to a cell, it's measured differently. But at a high level, we are looking at sales per associate and all of our business, and we are going to pay a lot more attention to that on a single focus next year because as we do that, it will help improve our flexibility in our plants. As Nick said, we offer more SKUs than anybody else so we have to be able to -- you know, have great flexibility in our plants and we are improving it but we are still not where we should be and we'll also improve on our complete on-time deliveries and therefore our sales. So you understand it very well. So I think we are going -- we are going to put a lot of attention on just productivity for next year, and as we did in our safety program, we just focused on one element of it, which was our incident rate, and we made great improvements and went from a 13 incident rate level down to 3 -- below 3, almost 2. That may not mean much to many of you but that's an OSHA calculation, and but it shows what we can do when we really get focused and we put process steps in place and realize results. So that's exactly what we are in the process of doing. Now, we want to carry it a little larger. You know, some of the well-known competitors that we have for one, for example, you know who we are talking about, have done a great job with their business system. And so we believe we have moved far enough that we can start thinking of that, and we will be developing that. And there are several other elements to that like our innovation, et cetera, new product development that we think will be part of that. But we will -- we will be documented and as we go forward we will keep you informed.

Let me -- Jim, let me add -- just something. This is Nick. Let me add just something going forward. We see substantial opportunities, substantial runway for growth. We will be talking about that a lot and we will be trying to take advantage of that with our execution. But make no mistake about it, we know that ongoing cost reduction and improvement is an essential part of our future. So, things like Jack referred to, like a business system that will -- that will enable our operations to focus on productivity are going to be front and center in our management discussions and the focus of all of our people going forward.

Great. Thanks a lot, guys.

We will go next to Jonathan Steinmetz at Morgan Stanley.

Great, good morning, everyone.

Good morning, Jonathan.

The first question I had is I guess you guys are talking about the ability to achieve a mid-teens operating margin by 2010 and it seems like a lot of that -- which I think you are talking 300 to 400 basis points of improvement versus where you are today. A lot of that seems like it will come on the operating expense side of things. Can you talk a little bit about how much you see that as more effectively leveraging an increase in sales and how much is a reduction in actual operating expenses and to the extent there is a reduction, where does that come from and what is the key driver of that?

Well, John, it is Marty. Good morning. First of all, don't minimize at all the growth opportunities. Again, I think we demonstrated this quarter that organically we have a lot of good things happening in our businesses, and we believe our businesses have organic growth capabilities in the mid to high single digits. So -- as I said earlier, I mean, we are trying to get our operating expenses in the low 30s. If you were run all the numbers, maybe that would be higher than mid-teens. I don't want to go there yet. I don't want to get ahead of ourselves, but we are actually encouraged by the growth opportunities in our business. Our industrial business, for example, in the commercial segment, which did great this quarter, is really into some end-market segments that have pretty good growth opportunities. We have got lots of -- as you know, going on in the franchisee business in terms of our product offering and the breadth of our product line and we are seeing great gains there . So, as we look out the next three years, we are actually encouraged by our growth opportunities. Diagnostics and Information we haven't talked about in this call. There is a lot happening there both in the core businesses, as well as in Business Solutions. So, I have got to tell you, if we can obviously overachieve on the top line, you know, we will do very

Let me -- this is Nick. Let me just put some landscaping on that. I think we are looking for balanced progress as we go forward. We feel pretty good. Pretty enthusiastic about our growth opportunities. The van business has substantial opportunities. It has open routes we haven't filled. It has purchases in the midtier, that our existing customers go else where now. We can capture those and there are a number of technicians we have never reached and we can. Marty talked about the industrial business and it's a little understood piece of the business. Fundamentally, we have 500 direct salesmen. These are people who have tremendous technical capability. They go forward and address other industries like -- like manufacturing or oil and gas or -- or the government. And now that we have been able to enable them and arm them with good and better delivery and new products, together with the wide product line, we see tremendous runway along that -- along that route, and then finally -- or not finally, but the OEM garage. The -- the repair garage. The management of repair garage in terms of repair information and shop management and parts catalogs, we see this as a growing opportunity for us. And when you lay on top of that emerging markets, we are pretty excited about the possibilities.

But do you see -- I appreciate all the growth opportunities, but if for any reason we were to hit sort of any macroeconomic pothole or anything like that and the top line were to come in weak or there was less ability to leverage it, are there more plain vanilla cost reduction type opportunities that you see and if so, where would those be concentrated?

Well, I think the concentration is -- is a lot of different places. I don't think there is any particular concentration. I think we have done a good -- some job -- some reasonable job of taking cost out of our -- of our product -- product in recent quarters. But when Jack and I walk around our -- our back office situation, our back office activities, we see opportunity everywhere. So, while I wouldn't -- while I wouldn't characterize it as any one area providing a motherload or low-hanging fruit, I think that Jack and I often talk about the fact that one of the great things about Snap-on is almost everywhere we look we see opportunities for RCI to create more productivity.

We have 103 associates dedicated that have been trained to some degree and we are continuing to train them, just working with the rest of the organization at sites around the world on our RCI programs.

I -- I could add to this. I think these -- these are businesses -- I am relatively new here. These are businesses that have been classically doing well based on brand and innovation. And there is a lot of opportunity for productivity advantages as we manage more aggressively going forward.

Okay. Just a couple of other ones. You talked about the wind down on the OEM facilitation business. Are there any costs on that that would be sort of be in the quarter lingering where as that winds down those comes out in a step function way or does the cost wind down as the revenues have been winding down?

John, this is Marty. That is not a cost wind down and that business unit today as we sit here is in fact, bidding on and negotiating new contracts. That is just the nature -- the issue with the business when we try to do these quarterly comps in our numbers is of course the volatility that is created by the timing of these programs, but there are a number of programs that we are bidding on and actually expect to be successful on that will replace that business.

Okay. And Cap Ex levels as you think forward into '08, would you expect to remain where we are this year? Or do we need to go up to -- to sort of take advantage of some of the growth opportunities?

No, I think they are going to be about the same levels.

Okay. And lastly, I am surprised one has asked it yet, so I will toss it out there, credit trends in the credit company. Any metrics you can provide us in terms of delinquencies among end customers or anything like that, given what is going on -- and sort of in a -- from a macro perspective?

That is a great question, Jonathan. Let me remind everyone on this call that we have been in the sub-prime lending business for decades. But we run it as a business. Every customer is properly credit scored. We don't do every transaction. And I think as all of you know the pricing on those contracts represent the risk in those contracts. So, there are no funny or, you know, strange structures that we do in an effort to gain business and those of you who follow us know we have been doing this a long time. Actually with respect to losses and delinquencies, they are down. And one of the most important predictors of future losses is our 30-plus-day delinquency and I will tell you that it is at -- it is now lower -- substantially lower, probably 40% lower and runs in the 3% to 3.5% range than it was at this same time two years ago and it was higher at the same time a year ago. Not withstanding what you read, our portfolios are performing well. As all of you know, it is a model that is very much managed by and influenced by our franchisees who collect. So, probably a couple of years ago we had a little more turnover in the system. The delinquency data reflected that. We have improved on that. People know we are not embarrassed to collect money. Our franchisees are not at all -- not at all afraid to take back toolboxes and tools. And so we have always been very disciplined in this area. We are pleased. Given what is happening in the macro environment-- we are very, very pleased with what the data is telling us.

Let me again add on that that in a macro sense, of course, no one ever wants to see disruptions in the marketplace, but as Marty just said, all the data we can look at, turnover, delinquencies seem to be moving in the right direction despite the apparent headwinds of this. Secondly, when we look at our businesses over time, they are not - our van business over time, it is not particularly vulnerable to interest changes. And remember this, when a technician purchases a tool, it is a productivity advantage. He purchases that tool because it makes him more money. It is his task for more -- for more income. So they are -- they place those purchases very high on priority levels. So, they don't back out of them very easily. And one final point. What we are seeing this quarter is balanced strength. Yes, we have a good van business, but we have got great industrial business. We have got strong positions in Europe, and we are -- and we are building a position in Asia-Pacific. So any one particular jurisdiction that gets affected by economics, we have some offset.

Great. Thank you very much. Very helpful.

Thanks

We will go next to David Leiker at W. Baird & Co., Inc.

Good morning.

Good morning, David.

I was wondering if you can put some items in different buckets for me. When you look at -- I apologize for the voice -- I am in the process of losing it, but when you look at the margin gains. You are actually seeing them accelerate here in the last year versus what you have been doing over the prior two or three years, and I am sure it is a combination of things. If you could put some color around how much of this is revenue growth. How much is Business Solutions business which had higher margins and how much is -- is a focus on the cost side?

Okay, David. You are talking about operating profitability. Well, you saw the sales growth. And we don't separately call out the financial result of Business Solutions, but clearly that's -- that's having some -- some effect on the expansion of our margin. I think when we first showed the numbers for Business Solutions, you saw it represented just under -- roughly 10% of the company's total sales. So you can -- you can sort of do that math with the data we shared back when we did the transaction. Its economic model is clearly intact. You -- you can go by segment here. There is no question as we said on the call that, you know, we are able to use RCI to -- for the most part, more than offset headwinds we have gotten in -- in cost increases. And you can see the improvement in the operating expense ratio -- I don't know what that is offhand in terms of a percentage gain. You guys can all do the math. And you can sort of work through the organic top-line growth which is somewhere between 3% and 8% depending on how you think about the OEM facilitation business. There is no question more of it is coming from the lowering of expenses as a percent to sales, but it is not really cost-cutting. There is no question we are eliminating waste, and that is a form of cost-cutting, but we are also seeing the drop-through effects of incremental sales. I mean, you know, the great thing about this business, we have got some real premium products. They are highly valued products. And we have businesses that, you know, at the increment, you know, can drop through at the gross line 50% or more with very -- very little direct selling if you will in the SG&A side. That's why with not huge growth numbers we can get very, very dramatic improvements in profitability.

Okay. So as we look forward, do you think that those drivers behind the margins are comparable going forward? Or does it shift somewhat among those three items? Obviously revenue growth is -- there continues to be -- a big turnover.

Over the long period -- I don't want to think beyond 2010. Right now as I have said, you know, whatever, 34.4% in OE -- we think that with very little growth truthfully -- and this will go back to Jonathan's comment a little bit -- if you really understand the power of RCI and you look at processes, and you don't realize how much waste is really in processes, whether five days to process an order that should be five minutes. When you really get at this, there are a lot of areas of waste. And we are just getting at it very methodically. We believe that we can drive ROE today without much top-line growth down into the 32% range. That has always been our internal plan, not relying on any growth really to get there. That should tell you the amount of opportunity we see in our current business. Over the very, very long term, be unlikely that you will drive, you know, four times operating profit improvement from -- from your top line, but between now and 2010, we have got a lot of opportunity to sort of do those sorts of things, to end up with those sorts of operating profitability growth relationships to sales growth.

Okay. Should we expect any more gains from the LIFO accounting going forward? Or has that run its course?

Well, you know, look, as you further reduce inventories and we didn't talk much in this call, we think there is more opportunity there that is a by-product.

Right.

I try not on the call to separate out the effects on the rate of margins so to the extent you see that as nonrecurring or non-operating, however you think about LIFO versus FIFO, to help you guys with the margin comparisons.

How much lower do you think you can take your inventory?

Well, David, at 4.6 turns -- you know Jack is over here sort of smiling -- you know we think substantially. If you look at our -- you guys look at our Qs and Ks you'll see that most of our inventory is in finished goods. That is why we are doing all the work around the distribution centers and created, if you will, our 80/20 which that drove our synchronized supply chain and is driving us to handle the high volume SKUs very differently than the low volume, which not only helps our complete on-time delivery which is a critical measure of customer care if you will for our franchisees and customers, but also is going to drive down inventories.

Flexibility in the manufacturing plants.

Flexibility in the manufacturing plants is the other piece of that equation. When you get flexible, as everybody knows you no longer really have to produce to a forecast and now you can produce to demand so you are not producing excess inventory or inventory that you don't need. There is a lot of opportunity there.

Okay. Do you have a currency number for payables?

A currency number?

For account payable. How much?

Somebody is telling me 6.2 -- is that dollars or what is it?

6.2 million.

She doesn't want to speak. 6.2 million, David. There it is. I can't know anything.

I guess we don't know.

I give credit to all of my people.

If we look at the Diagnostics and Information, if we pull out Business Solutions, roughly 50 million, and you add back in the facilitation and call it 20 million, you have a revenue number that is flat year-over-year. I am just -- either my math is wrong or I'm trying to reconcile that with the fact that sales are up 10%.

Let me do that for you because my comment went to sort of our core Diagnostics and Information which is essentially the Mitchell business. You know our businesses, the service information and shop management business, as well as our diagnostics business, fundamentally handhelds and regular software. In forming that comment I should have been clear, recall maybe a year ago, we took out of that segment -- we made some noncore products, air conditioning products, battery chargers at a plant down in Mexico that we got rid of.

Right.

For purpose of that measurement. What I wanted to communicate, when you think of the core across Diagnostics and Information...

Okay.

we think is really high value-added. We actually did very well when you make the comparison that way.

I think the thing -- the thing about that area is the place we are trying to gravitate toward which is supplying the shop ownership with products whether it is repair information or shop management or online parts catalogs or even some of our new diagnostics products like the SOLUS PRO which just came out, those seem to be selling very well and so when we isolate on those core businesses as Marty did, the quarter looks positive and we are encouraged by that.

Two last things and I will just throw them out together and you can deal with them independently. If you take the midtier product in the RWD business and the tools business, can you give us some sense of scale how much of your business is going to those two product extensions today. And then similar question remains reflects the emerging markets in China and how much of your business today is to those end markets?

I will take the first part of that and just frame this in dollars for you. Roughly in the third quarter, our midtier and RWD, let's call it $20 million. So, clearly a small but fast-growing part.

Okay.

And I think the Asia-Pacific, the emerging market portion of Asia-Pacific, if you exclude Japan where we already have a reasonably mature business, we are talking about I think the forecast for the year is about 85 -- $85 million, which is up about 35% or 40% from last year.

What about Eastern Europe and Russia and --

Eastern Europe is substantially smaller. It is more like -- I think our business there will be more like $20 million but it is growing very fast.

Marty, I have -- is that -- is that a quarterly number or an annual number, Nick?

That's an annual number the 85 million and the 20.

Marty, I have some recollection that you have a $200 million revenue business in China. Is that a bad number?

That's not -- I don't know where --

That is not us. We said earlier -- we said we tried to approach $100 million this year. Nick said it will be the $85 million to $90 million range.

What you might be thinking of is, if you look at Asia-Pacific region which includes Japan, China, the area I just quoted in emerging markets and Australia, then we roll up to a little bit north of $200 million.

Okay. Great. Thank you very much.

Thanks, David

We will go next to Boyd Poston at Gallatin Asset management.

Good morning. With restructuring cost 8 million first quarter, 6million second quarter and you ramped down to a little bit under 2 million third quarter and I guess you are ramping back 6 , 7 or 8 million in the fourth quarter. Can you comment and give me color on the ramp down in the third quarter and ramp back up in the

As you know, Boyd, first of all, these sort of come in -- in lumps depending on what we are specifically doing. As I said on the call, now it looks like the full year will be $3 million or so less. As I said in my prior remarks we could be up to 25 million. We are still looking at some projects that may or may not happen this year. If they happen may be up to the 25 million range if not we will be lower. But it is not a number that you can necessarily think about in terms of some pattern or, you know, some normalized level. It is very project specific. I think everybody knows we have been working on some big initiatives in Europe, migrating production and moving facilities, you know. Earlier this year, we spent some money to migrate production to one of our U.S. hand tool plants. So it really occurs on a project basis.

Would you expect that at this point for '08 that number to be under $25 million?

Yes, I mean, we haven't seen all of our plants through the whole of 2008 yet, but I would say so. Do you remember, before this year we communicated roughly 20 with some view over time that it would even decline from that level and that would still be our expectation. But we will try to give you as much color on this going forward each quarter as we have these calls.

Kind of a follow-up to what Jim was talking about. As far as franchisees, that number might be 3600, 3700?

Not -- not in terms of franchisees in the U.S.

In terms of vans?

Oh, in terms of vans, around 3500.

Okay. As far as the U.S. dealer performance, was there much difference as far as sections of the country, as far as their sales to the repair shops?

I -- you know, Boyd, I don't have that information, I don't know. I would say probably not. Nothing has been communicated to me from our business people, so I don't have that data.

As far as modeling purposes, the higher production material costs, 5.2 million this quarter. Going forward, is there -- would you expect much change in that number in the fourth quarter?

No, I mean -- obviously we -- we are close to what happens to steel. Prices have actually moved around depending if I have -- whether you are looking at sheet steel or bar stock for the Hand Tools. But yeah, we'd expect to continue to see some upward pressure, no question.

Okay. Thank you.

And with no further questions left in the queue, I would like to turn the conference back over to Mr. Ellen. Ellen, excuse me for any additional and closing remarks.

Well, thank you, Tony. Thank you all of you for joining us this morning. We look forward to talking to you again soon. Thank you.

This does concludes today's presentation. We thank everyone for their participation. You may disconnect your lines at any time.