Timken Co (TKR) 2004 Q3 法說會逐字稿

Good morning. My name is Tamara (ph) and I will be your conference facilitator. At this time, I would like to welcome everyone to the Timken third-quarter earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. Please limit to one question and one follow-up per person. (OPERATOR INSTRUCTIONS) Mr. Beck, you may begin your conference.

Thanks, Tamara, and welcome to our third-quarter conference call. I'm Kevin Beck, Manager of Investor Relations. With me today are Jim Griffith, President and CEO; Glenn Eisenberg, Executive Vice President of Finance and Administration and CFO; Jacqui Dedo, President of our Automotive Group; Mike Arnold, President of our Industrial Group, and Tim Timken, President of our Steel Group.

We have remarks from Jim and Glenn, and then all will be available for Q&A. At that time, I would ask you to please limit your questions to one question and one follow-up at a time to allow an opportunity for everyone to participate.

Before we begin, I would like to remind you that during our conversation today, you may hear forward-looking statements related to future financial results, plans, and business operations. Actual results may differ materially from those projected or implied due to a variety of factors. These factors are described in greater detail in today's press release and our reports filed with the SEC, which are available on our website at timken.com.

The call is copyrighted by the Timken Company. Any use, recording, or transmission of any portion without the express written consent of the Company is prohibited. With that, I will turn it over to Jim.

Thanks, Kevin, and good morning to those of you who are on the call. I am pleased to discuss our third-quarter results. They illustrate our continued progress toward improved performance and the fact that we are delivering on our results for the fourth consecutive quarter.

Our earnings per share was 27 cents, consistent with our previous estimates of 25 to 30 cents, and well above the 4 cents we reported last year. We are continuing to improve. We have integrated Torrington and are on track to deliver the committed synergies. Our manufacturing facilities are running well and delivering record amounts of products to our customers.

Managing the challenges posed by very strong demands in our markets and high raw material cost is the key to near-term performance. From a demand perspective, we are seeing rapid improvements in industrial markets. Our Steel Group sales related to oil production this quarter are more than double last year. North American rail freight car deliveries have nearly doubled since 2002. And Caterpillar recently said they expect 2004 growth of 25 to 30 percent, with continued strength going forward. These statistics are indicative of the strength of global industrial markets that are straining the supply chain.

We are in the midst of a rapid cyclical upturn. We are taking steps to respond to increased customer demand created by this upturn. We are also dealing with unprecedented raw material price increases driven by supply and demand. In the short-term, the challenge is to recover these increases. Most of our customers have agreed to price increases or surcharges that allow us to recoup a significant portion of the increased costs we are experiencing. We must and will achieve increased pricing in the coming months.

In the longer-term, it is our opinion that the increases in raw material prices will continue to fuel investments in mining, oil and gas drilling, and related industrial equipment, which will in turn drive the demand of our products. We are well positioned for growth.

I will elaborate as we review our individual business performance, before turning to Glenn for the consolidated financial performance. Automotive Group sales for the quarter of $371 million continue to be strong, up 7 percent from last year. Sales growth resulted from increased penetration in light vehicles and continued strong demand in medium and heavy trucks. Sales to light vehicle applications increased despite lower vehicle production, down 1 percent in North America and a flat European market.

Successful new platform launches at Ford and Nissan, combined with others launched in 2003, continued to boost sales compared with last year. Medium and heavy truck demand continues to be strong, with a 38 percent increase in North American vehicle production. I should note that we released this morning a correction to our press release to change the North American production to be actuals versus the estimates that were originally included.

Despite the strong demand, the Automotive Group reported a loss before interest and taxes of $7 million, although slightly improved from last year's loss of $8.5 million. Sales and profitability were less than second-quarter levels due to normal seasonality and lower production schedules. We have corrected the manufacturing inefficiencies which impacted our performance in 2003. However, escalating raw material costs have reduced profitability, a factor which began to impact this sector in the second quarter. We were successful in recovering a modest portion of cost increases this quarter, and we will see continued improvement in our ability to recover in the coming months.

Industrial Group sales of $414 million were strong as well, up 7 percent from last year. We continue to see increased demand as we achieve strong sales growth in most market segments, with significant growth in construction, agriculture, rail, and mechanical power transmission. Distribution orders have risen more slowly year-to-date, as the distributors continue to reduce their inventories of Torrington branded products. This inventory reduction is in line with our projections, and we expect this trend to continue.

Industrial Group EBIT was $45 million, or 11 percent of sales, well above last year's 9 percent margin. The increase in EBIT was driven by increased volume through our improved cost structure and improved pricing and surcharges.

We have seen a rapid increase in industrial demand and we anticipate this demand will continue. Supply chains are straining to keep up with the rapid industrial upturn of 2004. Our current focus is on ramping up capacity and improving the sales mix.

The Steel Group reported record sales of $355 million, up 50 percent from last year. Nearly $50 million of the growth was generated from increased volume. The remainder comes from raw material cost surcharges and price increases.

Sales across all market segments are better than last year, led by large increases from oil production, aerospace, and general industrial customers. The Steel Group operated at near capacity for the quarter, and we expect these operating rates will continue.

We had another record sales quarter, but it was accompanied by record high costs. The Steel Group EBIT in the quarter was $17 million compared with the loss of $6 million last year. Productivity improvements leveraged by the strong volume enhanced profitability. Raw material costs, especially scrap steel prices, continue to increase sharply over the prior year. Scrap steel, alloy, and energy prices are all expected to remain high in 2005.

The new surcharge mechanisms and price increases we implemented late last year are recovering a significant portion of these costs. As we enter into the annual contract negotiations for 2005, we are seeing real price increases in the marketplace.

In summary, while we don't see an abatement of the raw material prices, we are encouraged by the strong demand for our products across all market segments and we continue to see benefits from actions we have taken as we leverage this upturn, especially the strategic combination of Timken and Torrington. We are still below peak earnings and are relentlessly focused on bringing more value to customers, becoming more competitive, and improving the bottom line. Thank you again. Now I will turn it over to Glenn.

Thanks, Jim. My comments, consisted with those by Jim, exclude the impact of special items, which primarily relate to the Torrington integration. These special items totaled $11 million of pre-tax expense in the third quarter this year, compared to $8 million of pre-tax expense the same period last year.

Sales for the quarter were $1.1 billion, 17 percent better than third quarter last year, with improvement across all three business groups. EBIT for the quarter was $52 million, nearly three times last year, as EBIT margin of 4.7 percent was up approximately 280 basis points, with improvement across all three business groups.

Both gross profit and SG&A as a percent of sales improved from last year. Margin increases were due to strong sales and operating improvements, but were constrained by high raw material costs. Sales and EBIT margins for the quarter were slightly lower than second quarter due to seasonality.

Pretax synergies for the Torrington acquisition were $21 million this quarter, or $56 million year-to-date, driven by leveraging our purchasing and reductions in workforce. Based on this year's annualized savings of $75 million, we remain on track towards our $80 million target in 2005.

As we discussed last quarter, our Faircrest steel facility was shut down for about 10 days in the second quarter to clean up contamination from a material commonly used in industrial gauging. During the third quarter we incurred expenses related to this of $2.5 million. We also received insurance proceeds of $3 million this quarter. Over the last two quarters, we incurred net costs of $7.2 million. Additional insurance recovery is expected in the fourth quarter such that the total net costs should end up at our $4 million deductible level.

With a 38 percent tax rate for both periods, net income for the quarter was $24 million, up significantly from last year. Average shares outstanding, assuming dilution, increased to 91.1 million for the quarter, compared to 85.7 million last year, due to last October's share offering.

For the quarter, earnings per share was 27 cents, in line with our earnings estimates for the quarter of 25 cents to 30 cents. We ended the quarter with net debt of $861 million, or 43 percent of capital, $77 million higher than second quarter. This increase was driven by higher working capital requirements, primarily inventory, due to higher raw material costs, higher sales, and seasonality, and cash contributions of $61 million this quarter to domestic pension plans, completing our contributions for the year of $185 million.

The Company expects the net debt to capital ratio at year-end to be lower than last year's level of 39.3 percent, with continued profitability, lower working capital requirements, no additional pension contributions, and proceeds from divestments.

Our earnings per share outlook, excluding special items, is $1.20 to $1.25 for the year versus prior estimates of $1.15 to $1.25. We continue to expect improved performance from last year across the Company. Our actions, including the integration of Torrington and other cost reductions, have positioned us well to leverage the upturn. Surcharges and price increases should continue to mitigate the impact of the high raw material costs.

This concludes our formal remarks and now we would be glad to answer any questions that you have.

(OPERATOR INSTRUCTIONS) Andrew Obin with Merrill Lynch.

Good morning. I have a question about rate of growth in the Auto business relative to rate of growth in the Industrial business. The Industrial growth is highly profitable at the same time as we look -- as we grow the Auto business. There is no change in profitability versus a year ago. A, I was wondering how sustainable is this really high rate of growth in the Automotive business. And B, when do you think things start to get markedly better in this business?

You really are asking two questions then, Andrew, if I understand, with regard to the Automotive business. One is, is the rate of growth sustainable? And secondly, when do we see profitability changes?

Let me just put it in some perspective. If you were to look at our automotive business and go back six (ph) or seven years, you would see that the business has grown at a rate of about 6 to 8 percent a year. That has been about our average rate of growth. And it is built on a successful new product launch program. We are bringing more value, increasing our penetration per vehicle across those markets. It happens in the last couple of quarters, the heavy truck market has surged up, and that has given us an extra boost in that, just simply responding to the demands of our customers.

Now the more difficult question is the question of when do we see the profitability improve? The general answer -- and actually, I guess I appreciate you asking the question because it is hidden in the numbers. Last year, we had serious manufacturing performance problems in both the Torrington and the Timken side of the business as a result of rationalization. Those in fact are behind us. That business generated about $50 million of cost reductions, net cost reduction, over the past year and so has performed quite well.

Unfortunately, this quarter particularly, you are seeing the impact of raw material prices and the well-publicized difficulty in the auto industry of passing those through.

Jacqui, you want to add to anything to that?

Maybe a couple of comments. First appreciate it, Jim. Andrew, to follow onto what Jim said, we have seen a structural improvement significantly over the last year. You have seen that this quarter we have lost $7 million, which was slightly better than last year, losing 8.5, while dealing with significant steel pricing.

From a contractual standpoint, our business follows about a three-year pattern. This year, we're having openings on about 25 percent of our business. And there we're going in, negotiating, and finding who of those 25 percent want to work with us to ensure that structurally we deal with these kinds of material issues and who doesn't.

Next year, we will add about another 45 percent of contractual openings. So when you accumulate this year's openings to negotiate around this material issue, and next year in the auto business, by the time we are about halfway through next year we will have had an opportunity to renegotiate about 70 percent of our business in dealing with this unforeseen material issue, and will still be enjoying the benefit of the structure as we peel off that material business.

But the second part of the question is just the rate of growth in the Automotive business relative to Industrial. And then the Industrial growth seems to be a lot more profitable for the Company. And I thought you have the ability to put some Industrial production through the Automotive plants. Would you be willing to trade off Industrial for Auto going forward? And why are you not doing it now? Is it just a function of where we are in terms of renegotiating the contract?

The general answer, and it is true in our steel business as it is in our bearing business, is we have taken the decision to live with -- to abide by the contracts that we have with our customers. What that does is delay our ability to respond, in many cases, to the opportunities in the industrial market, which tend to be more spot opportunities. You have seen that change in the steel business between 2003 and 2004. We will see more of it in 2004. The same is true in our bearing products.

Thank you very much.

Holden Lewis with BB&T.

Thank you. Quick question for you, just on the industrial side of things. We have seen a couple of your distributor customers report their earnings and revenues, and generally speaking, they saw acceleration in their industrial businesses and just a rate of growth which was about twice what you reported.

I'm just curious why, after performing pretty well in the last couple of quarters, you seemed to drop so far behind some of those customers in terms of your growth rate. Certainly, I hear your message about distributors a bit weaker, but are they still growing or did they flip negative in the quarter?

Holden, let me just give you the big picture to it and then I will let Mike Arnold come in and give you the color, I guess, to it. There really are two issues as we look at the distribution market which impact us. One is that we have this ongoing issue with the Torrington product that was in their inventory, which they are using this up market as an opportunity to burn off. And we are encouraging them to do that because it gets us back to our business reflecting demand as opposed to reflecting contractual relations with distributors.

Secondly, we are in the midst of a rapid upturn. And we are running into, have run into limitations in our ability to support. And as you go through one of those upturns, that ends up with a disproportionate amount of OE demand being met as opposed to distribution demand. And balancing that is a critical part of driving not only our sales, but more importantly, our profitability. With that, let me turn it to Mike.

Really, there is two points to this. I think if you decipher the major distributors and their actual growth, you will find that the bearings side of their product line is actually growing at a slower pace than the rest of the power transmission components, and I don't know whether they cover that in detail.

The second thing is if you do offset with regards to the growth that we have had saleswise in distribution year-to-date, if you offset that with the inventory reduction, you will find that to be very consistent with the distributors' growth in sales externally on their bearing products. So actually, our numbers are very consistent with what is happening in the marketplace.

I guess I was just curious as to why they do break that out, and I think that they are seeing acceleration, even on the non-fluid power side of the businesses. But just seems like they saw acceleration, whereas you saw some deceleration. If I am hearing you correctly, you are having some capacity issues just trying to make sure you can manufacture enough product, I guess, is the one element.

But I guess the second element is, you note the distribution problems. Those problems have existed through the last couple of quarters and I guess distribution has still been able to grow at a modest pace. Are we still seeing distribution growing at a modest pace or did that go negative or worsen for some reason in this quarter?

It continues to grow at a moderate pace. If you look year-on-year, third quarter/third quarter, it is actually down slightly from third quarter of last year. But again, this really is pinpointed at the inventory issue. So the inventory issue is significantly greater than the capacity constraint issue.

Okay, but versus Q1 and Q2, distribution was up year-over-year, right? So it did sort of flip a little bit in Q3?

That's correct. And there is always a significant uptick in the buy from our distributor base in the last two quarters of the year.

Okay, and do you expect that -- your tone has been more positive, given what's going on with the volume side of things. Is this switch into negative territories somewhat of a disappointment or was it expected, and does this maybe move us even faster to the point where distribution is no longer in issue? Where did that put us in this cycle?

It was consistent with what we forecasted.

Okay. So it doesn't accelerate the conclusion of this issue in any way?

No.

Thank you.

Stephen Volkmann with Morgan Stanley.

Maybe to start off, just to follow up, Jacqui, as you renegotiate these contracts, the 70 percent you'll get a chance at in the next year -- two years I mean, what makes you think that you're going to get what you want here? Have you had some initial conversations that have gone well or can you give us a sense of the confidence level there?

Stephen, did you say 7? I said -- hopefully you heard 70.

I said 70.

It didn't come through.

Sometimes I mumble.

It's a mixture. We have had some very good conversations, where we're talking about total package deals of repricing material mechanisms as well as looking at supply lines. And we have had some not as assuring. I would say, fortunately, the majority are, look, we have to stick to the contract because we built our plan around it; but when the contract comes open, we want to negotiate with you as a long-term partner.

Now two things make me feel good about where we are not having solid negotiations or solid pre-discussions. One is that we have an option, a very good one, in Mike's business, that that capacity can quickly be shifted there, where it can be utilized very effectively.

Second is there is a real -- I should say three -- second, there is a real interest in some of the value-added technology that we bring to the market that differentiates a number of our products, the majority of our products in this sized group versus the competition in a very real way for our customers in how it allows them to meet various objectives, such as fuel economy. And the third is it is a very tight market in the world of bearing capacity right now, so there are not a lot of options out there.

That's helpful. I apologize; I had to jump off for a second; I don't know if Tim is in there. But when I was out talking with him about steel contracts' repricing, the fall is a big season for that, and he seemed to think that was going to be pretty important to his '05 outlook. Do we have any update on how that process is going?

We are about 50 percent of the way through the contracts that will expire at the end of this year right now, but the vast majority of our contracts are annual. So we are about halfway through, and we are making some good progress on both the pricing side as well as the move to the generic surcharge.

Okay, great. And then kind of a final follow-up. Do any of you have any visibility into '05 with respect to long lead order times or having conversations with various customers about what they're going to need? What could the total top line for this part of the industry where you deploy look like next year? Does it go to the low single digits or does it remain fairly strong? Any thoughts on that?

Steve let me take the first cut at that, and that's that we're currently going through our 2005 profit planning season. so what we would like to do is, and in the normal course what we've done in the past, is give you our 2005 outlook overall at our next quarterly conference call; we will have gone through that.

But having said that, your question I guess was geared more just to top line, and I think it is fair to say as we're going into our planning process, similar to I think your other analysts' assumptions, that we expect to continued improvement in the general economy globally. So I think it is fair to say that you will see top-line growth spread across all three of our business groups and that you'll see us leverage that volume well for all the issues that we're talking about on today's call as well.

Is anybody worried about a potential softness in the first few months of the year post the accelerated depreciation wearing off?

Again, we will get into the specifics later, but I think it is fair to say that our assumptions going into our 2005 outlook will be continued top-line improvement across all three groups.

Great, thank you.

(OPERATOR INSTRUCTIONS) Wendy Caplan with Wachovia Securities.

Thanks. Could you comment, Jim, on the labor issues, what the situation is, give us an update there?

One of my favorite subjects, Wendy. We are, as you all know, and I am assuming you're referring to the situation with our union here in Canton, Ohio. For those who don't know what she is talking about, we announced in May that we were shutting (ph) our factories here and have subsequently announced an early opening of discussions with the union for the contract which expires in September of 2005.

We gave the union a couple of months to really prepare their case for the negotiations. We actually began those negotiations during the month of October and have negotiating sessions scheduled through the month of November. At this point, that's really all I should comment.

Yes, that was what I was referring to. And you mentioned several times in your presentation about capacity constraints, and mentioned specifically that Steel was at or near capacity. Are there any plans to -- can you comment on capacity in the other two segments, and also whether there are any plans to increase capacity anywhere in your space?

Wendy, this is a great time for somebody who is in a business like ours because what you're trying to do is use the opportunity, the upturn, to improve your mix at the same time you are trying to satisfying your customers.

Within Steel, we are operating very near capacity and we have some manning changes that we can make, we have made, that actually increase capacity and we are in the process of doing that. Within the bearing side of the business, we have two issues going on. One is simply ramping our plants up to full capacity. We have a number of places, particularly in some of the former Torrington factories where, being tied to Timken and being successful in the market, they are seeing levels of demand they have not seen in the past. And the bearing industry has a notoriously long training lead time. We are simply hiring and training people as we go.

In addition, we are making capital investments in constrained operations throughout our manufacturing base. We are bringing on this quarter some new lines, where we have invested in new lines. And as you know, we have a new plant in Suzhou, China that is in its ramp-up phase. So yes, there are a number of places we see increasing capacity coming on, increasing our ability to serve our customers and giving us confidence we will be able to improve the top line.

Wendy, did that answer your question?

(indiscernible) cost regions, primarily.

I'm sorry, you broke up. I just got the last phrase that you said.

I was wondering whether the capacity increases that you referred to would be in what we would consider lower-cost regions.

They exist across our Company. We have capacity increases coming online in Canton, Ohio in the plants that we are in the process of closing. We have capacity increases coming on in South Carolina, and we have capacity increases coming on in China. We look at our manufacturing base as a global entity and invest wherever we can to effectively serve our customers.

Just as a follow-up, can you explain why you would be investing in a plant that you're planning on closing?

We are bringing on -- we have added people and we are bringing on capacity that already exists, bringing it up to serve customers while we are in the process of investing in the places that we will be moving that capacity to reinstall it and make it more competitive. It is a short-term/long-term play. In the short-term, we have got to serve customers. In the long-term, we've got to do it in a competitive factory. We are balancing that as we go through this upturn.

Thank you, Jim.

Jim Costell (ph) with (indiscernible).

It's Jim Costell with Cuyahoga (ph) Capital. An accounting related question. As I recall, both the domestic bearing and domestic steel businesses use LIFO accounting. Are the LIFO estimates that you use for raw materials, steel and scrap, through the first three quarters of the year, are the prices that you have assumed for the end of the year higher, lower, or about the same as where the spot prices were for these products at the end of the third quarter?

Jim, that's a good question, because it's the one thing, obviously, we don't know. We can just surmise based upon where we have been. As you know, each quarter we will make estimates as far as what the LIFO impact will be on our results, and that is provided in the guidance that we share. And obviously, we are sharing improved profitability, if you will, for the fourth quarter versus the third. Some of that is seasonality, but we're stirring in all the pieces together.

We have seen unprecedented high raw material costs that have impacted our numbers. It increased and then we thought it would continue to increase, and then we would see it come down for awhile. And then all of a sudden it's coming back and now it's at the highest level that it has historically been.

Obviously, being conservative, our assumption is that they will continue to increase, so that we are in a position to absorb those increases as well as be in a position to pass through any costs that we are incurring to our customers. So to some extent, your guess is as good as ours. Net-net, we probably think that there's higher pressure for the costs to go up rather than down, but we just won't know until we go through the quarter.

I guess the question I was asking was, you've made some accounting estimates through the first three quarters. Is your answer that the accounting estimates that you have made through the first three quarters imply that the prices of these materials will be higher at the end of the year than they are currently, the spot prices at the end of the third quarter?

That is fair. Again, I think given that prices have been increasing throughout the year for the most part, we have been expensing LIFO at a higher rate as we have gone through the year. And again, if you assume that the prices will continue to go up, and we will tell you net-net they are probably leaning that way, that we would expect the expense to continue to go up relative.

And what about volumes of units at the end of the year? Will they be down?

You're saying volumes of units --?

In inventory.

Will they be down relative to -- what time from are you talking about?

Year-over-year.

Year-over-year, I would say our inventory levels would be probably slightly up overall. Again, right now, we are talking about very robust revenues and we are trying to supply them as much as we can, so we are dealing with product mix. We're also dealing with some seasonality issues relative to building up inventory in advance of potential shutdowns in the normal course. So net-net, volume is up, our product numbers are up, as well as our pricing is up.

Thank you very much.

Mark Parr with KeyBank Capital.

Good morning. I had a question on the steel side. You talked about contracts being renegotiated. We have heard a lot of public negotiating on the part of flatrolled producers talking about as much as 20 percent increase in base prices for contracts. Is that a realistic ballpark for what you are seeing in your business right now?

Mark, you know that across the steel industry you have seen different moves according to products. The strip guys got theirs (ph) this year. For the most part, bar pricing has been relatively flat. We have put two increases in in the spot market, but we are so heavy on contract right now that you haven't seen it at the bottom line. The numbers that you're talking about are achievable. But again, we are about halfway through right now. We will know within the next probably two to three weeks how it is all going to shake out.

Okay. Let's just say, for example, if you did have a 20 percent increase in base prices, that would be in addition to any improved terms that you had on raw material pass-through?

Yes.

Okay, terrific.

Mark, you also have to look at the product that you're talking about, whether it is -- within our own mix, bars and tubes, obviously, are going to behave differently.

Yes, absolutely. Okay, thank you.

Gary McManus with JP Morgan.

Good morning, everybody. Looking at your full-year earnings guidance, it suggests a fourth quarter of around 28 to 33 cents. If I look at what you did in the third quarter, you did 27, so you don't expect much improvement sequentially between the third and fourth. Especially -- I assume in your guidance you're giving yourselves the benefit of the 3 million or so net insurance benefits in Steel.

So can you talk about what you see profit contribution sequentially in the fourth quarter versus third? Is Automotive still going to lose money? Is Steel going to make 16 million of profit? Just some order of magnitude, because those numbers are pretty interesting.

I guess just overall, when you look at prior quarters, if you will, you lose the impact of the seasonality impact. So third quarter for our Company is historically low, so we would expect to see a fourth quarter improvement from the third quarter. We hope to see a fourth-quarter improvement over the third quarter plus fourth quarter of a year ago; so improvement over both timeframes.

I think is fair to say that we should benefit in the fourth quarter, to your point on the insurance recovery. We have actually expected to see that in part come from that in the third quarter, but we did receive some of it, such that we were net positive. But more will come into the fourth quarter. And again, that will be a positive, just like the negative that we absorbed in the second quarter when we incurred it on that basis. So there are a lot of good things and bad things that come through our numbers overall.

The guidance that we are giving for the fourth quarter, we are reaffirming, if you will, our estimates that we gave you for the full year. So effectively, the implied fourth quarter versus what we had given last quarter is a range that has increased. I think we would have been at around 26 to 31 cents for the fourth quarter, last quarter when we provided it. And now from 26 to 31 we're up to 29 to 34. And in part, that is reflecting some timing because we're keeping our full-year-end estimate the same.

The profitability across all the businesses, I guess you referenced Automotive. Again, that is a seasonality issue. We have our weakest period in Automotive in the third quarter, and we expect to have a good quarter in the fourth quarter following seasonal patterns. So I would not read too much into that.

But other than I think you have heard from each of the segment presidents talk to good top-line growth experienced in the business and that is continuing, and just leveraging that improved volume, which is why we expect to see higher profitability in the fourth quarter versus the third.

Gary, one fact that underlies the forecast that might help you understand it. In a normal cyclical year, we would take a significant maintenance shutdown in the third quarter in our Steel business. This year, because of the unscheduled downtime we had in May as a result of the problems at Faircrest, we decided to run straight through that to increase service to our customers. We will be taking that shutdown in the fourth quarter, and that does impact the financial performance of that business.

Just to follow up. If I just take Auto for a second, in the last two years -- in '02 you had a $12 million sequential improvement fourth quarter versus third quarter. Last year, you had a roughly 16 million sequential improvement. Is that what you are suggesting, that kind of seasonal pickup in Automotive profits?

I would say overall -- again, I won't get into the magnitude as much as the direction.

(multiple speakers) somewhat similar magnitude.

No, but it is a fair point, that we will have a good fourth quarter performance within the Automotive Group relative to the third for the reasons that we spoke about. We have seasonality that negatively impacts us. We have our OE customers that have plant shutdowns in the third quarter that affects us. The fourth quarter, we will see good volume. We will see good margins relative to that, as we have seen in the fourth quarter in prior periods relative to the third quarter.

Right. And just the Steel, I mean, I hear what you're saying, Jim. It sounds like you had a higher number of production days in the third quarter than you normally would, because making up lost volume from the shutdown in the second quarter. But what is the margin we should be thinking about in Steel? Is it -- can we get back to the 5 percent margins you typically get in good times?

I think it is inappropriate at this point to sit and try to forecast a quarterly margin, if that is what you're talking about. Certainly, we believe we will get to the same kinds of steel margins we have gotten to in good times. The challenge of forecasting right now is the question that Jim was asking before. What is going to happen to raw material prices and how will our surcharge mechanisms work? How effectively will we be able to pass those through to our customers? And that overshadows a whole bunch of the normal assumptions in terms of forecasting.

Okay, one real quick question, I guess for Glenn. The 61 million of pension contribution, you gave us a cash flow statement in the release. Where does that show up? Is that in Accounts Payable?

Yes, if you look at the cash-flow statements, it is really in two lines. One would be the -- call it the EBIT number, or I guess we use the net income line, because we are expensing some of that. And the other is in the line you are discussing, which is the payable line. So between the two, we will have a cash usage of $61 million.

So is the 61 million just the cash or is it cash which you expensed in the quarter as well?

The 61 would be the cash impacted from us in the third quarter.

Okay. So that is not in net income?

Again, I'll break down the pieces for you. We had around $20 million of pension expense. That would be in the net income. And then we had 60 of cash. So the difference between the two, or that $40 million, would be in the payable line.

Okay, great. Thank you very much.

Stephen Volkmann with Morgan Stanley.

Hi again. Glenn, that was a good segue to this. Wanted ask you if you have any preliminary thoughts about what '05 is going look like on the pension, both (ph) maybe EPS or cash impact.

I would say, Steve, we will be in a better position similar to the other comment about looking forward to '05 as we get through this year. As you know, it is so dependent upon variables that we will know at the end of the year and it is so sensitive to that. So if you give me what interest rates will be or asset performance and so forth, I can give you a better idea.

I don't want to -- having said that, it is our expectation that probably from the cash standpoint the contributions that we would make into the plan next year have a good chance of being lower than at the current level because they've been at record levels. But again even that statement is still a function of what will interest rates be by the end of the year.

I guess that is where my question kind of came from because unfortunately those things have gone against us a little recently.

And it has. Right now if you stopped it today, the long-term rates that you would use to discount are lower than what they were the end of last year, so we have got a quarter to see the impact of it. If rates continue to raise from current levels, then the comment that I said will be true, that it will be lower. But rates could, as you know, stay at the current levels or even lower.

Okay, thanks.

Holden Lewis of BB&T.

Thank you. The Torrington run rate that you put out there, about 21 million, that essentially gets you to your 85 million run rate which you had envisioned recognizing in full next year. The fact that we have sort of gotten to it at this point, is that a little bit early? Does that suggest that maybe you can exceed that 85 million and therefore get a continued incremental bump from that integration going into next year or did we just get it done pretty quickly?

It is a good point, Holden. Obviously we gave the annualized rate based upon the nine months' performance that we have had in our belt and just annualized that. If you just took the third-quarter impact and you annualized just that period, we are now at our $80 million target. So assuming we just hold that level for all of next year with no additional savings, we will have met our target.

And it is obviously our belief and clearly everything we are doing is to try to continue to drive the benefits of having our two companies put together, so I think it is a fair assessment to say that we will see continued improvements as we leverage all the different facets, more on the top line than right now where we've gotten most of the benefits on the cost reduction line. So we don't stop doing it but clearly we should be well at or above our target that we set when we acquired the company.

Do you plan on sort of trying to quantify that at any point, or at this point it is just going to remain soft and fuzzy?

I guess we don't want to continue to change the targets. We have said what the target was and we're putting and saying what are we at relative to the target. So we will continue to do that until, let's say, we're well above that. And then at some point, it is just a function of being one company and trying to distinguish between the two becomes less of an issue. But for right now, we are continuing to identify the savings, the benefits of putting the two companies together, at least until we go through the target that we've set.

The other thing I'll point out -- I think it was discussed a little bit earlier. There are things that are coming up from the benefits of putting the two companies together, such as the ability that Jim talked about of moving product and capacity to other facilities now that we have more room as a result. So there are additional benefits that we won't even quantify, at least as part of this savings, that we're doing.

So I think our message is we set a target. We are at or exceeding it, and we're pleased with the progress that we've seen on the integration front to date.

On Steel, you sort of, I think, indicated that you have about 57 million at top line that was a result of the pricing and surcharges. Can you talk about two things? First, what is the mix between price and surcharge -- is that 57 million? Secondly, if you were to have gotten all of the benefits of what seems to be your twice-weekly price increases, if those were fully hit in this quarter, what would that 57 million look like?

Holden, the vast majority of the 57 million is related to surcharge. We have pushed pricing in the spot market aggressively, but given our exposure to the contract business right now, it has had a smaller effect than the overall impact from the surcharge.

Okay. And do you envision having to take surcharges down at any point or do they look like they are pretty secure for now?

Tell me what scrap is going to do. I don't want to be a smart aleck about it, but we have an index in place that is meant to cover ourselves in light of a very volatile raw material market. And so my view right now is that that generic surcharge that we have in place will stay.

And then presumably that will be added onto as pricing kicks in a little better, assuming you get your pricing and contract. So this number should continue to grow, you would think, going into '05?

That is correct.

Thank you.

There are further questions at this time.

Okay, thanks, Tamara. Before we conclude, I will turn it over to Jim for some final comments.

Again, we would like to thank you all for a lively discussion with us on the issues facing the Timken Company. In conclusion, we are experiencing very strong demand in our key markets across the globe and have no sense that that will change in the near future. That creates the biggest challenge and opportunity for us, which is responding to the demand and managing the incredibly high cost of our raw materials.

Overall, the Timken Company is positioned to leverage the improving economy and remains focused on creating value for customers and shareholders. Thank you very much.

Thanks, Jim, and thank you for attending our call today. If you have further questions, you can reach me, Kevin Beck, and my number is 330-471-4272. That concludes our call.

This concludes today's conference call. You may now disconnect.