Timken Co (TKR) 2013 Q3 法說會逐字稿

Good morning, my name is Tim, and I will be your conference operator today. As a reminder, this call is being recorded. At his time, I'd like to welcome everyone to Timken's third-quarter earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session.

(Operator instructions)

Thank you. Mr. Tschiegg you may begin your conference.

Thank you, and welcome to our third-quarter 2013 earnings conference call. I am Steve Tschiegg, the company's director of capital markets and investor relations. We appreciate you joining us today.

If after our call you have further questions, please feel free to contact me at 330-471-7446. Before we begin with the remarks this morning, I want to point out that we posted on the company's website, presentation materials that supplement today's review of the quarterly results. You can also access this material through the download feature on the earnings call webcast link.

With me today are Jim Griffith, President and CEO; Glenn Eisenberg, Executive Vice President of Finance and Administration CFO, as well as Tim Timken, Chairman of the Board of Directors; Rich Kyle, Chief Operating Officer of Bearings and Power Transmission; and Chris Coughlin, Group President. This morning, Jim and Glenn will offer a few remarks, and then all of us will be available for Q&A. During the Q&A, we would ask that you please limit your question to one question, and one follow-up at a time, to allow everyone an opportunity to participate.

Before I turn the call over to Jim, I would like to remind you that 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. We describe these factors in further detail on today's press release, and in our reports filed with the SEC, which are available on the www.timken.com website.

Reconciliations between non-GAAP financial information and it's GAAP equivalent are included in the press release. Today's call is copyrighted by the Timken Company. Any use, recording or transition of any portion without the express written consent of the Company is prohibited. With that I'll turn the call over to Jim.

Thanks Steve, and good morning everyone. In our earnings announcement earlier today, we reported third-quarter sales of $1.1 billion, and earnings of $0.54 per diluted share.

Clearly, these results were lower than our own expectations. They reflected a weaker recovery in the global economy than we, and our customers, had expected. And we have lowered our outlook for the balance of the year as a result.

To understand these results, and the outlook for Timken as we complete 2013 and enter into 2014, you have to take into account a number of significant issues. First, our view of the global economy, and especially several key markets we serve has changed over the last few months, and we have taken significant steps to respond to that change.

As we entered 2013, we expected slow economic growth in the first half of the year, followed by a sharp increase in the second half, as customer inventory adjustments were completed, especially in the mining and energy sectors. And demand for our products grew to match the underlying pace of the markets. As the year progressed, we held to that belief, but moved back the timing of the [inflection] point in demand.

Our view has now changed. It is now clear to us that the weakness in some of the key markets we serve, including emerging market infrastructure, mining, and energy exploration, is more structural and will be longer-lasting than we had expected. This leads us to believe that the slow, steady improvement in demand that we've seen thus far in 2013 will extend well into next year.

This situation has been exacerbated in the third and fourth quarter of this year, by seasonal reductions in demand in some sectors. In response, we have initiated efforts to improve our cost structure to be in the position to better leverage the markets as they return, and strengthen margins in the quarters ahead.

Given this picture, the efforts to strengthen our margins in the face of a slow recovery include both long-term strategic actions, as well as more aggressive tactical adjustments. On the strategic front, we remain focused on growth in long-term attractive markets, as well as performance improvements across our enterprise.

The investments in our steel business are moving forward well. Our automated tube processing line is up and running, lowering both fixed and variable costs. The forge press and label refiner are both operational, and being qualified with new differentiated products. And we plan to start up our vertical caster in 2014, improving our structural costs at all levels of demand.

In the bearing business, our focus on diversifying, and improving the mix of our business, is also paying off. We continue to launch new types of bearings, expanding our range of industrial solutions.

In mobile, where much of our recent dialog is focused on the business we exited, while changing our market strategy, we have seen a welcome improvement in the pace of new platform and customer wins. Integration is proceeding on acquisitions we made earlier this year. While acquisition accounting impacted our margins this quarter, especially in our process industry sector, the businesses are performing as expected, and nicely extending our market reach.

And, we continue to expand our geographical presence in Asia and in Africa. All of this adds long-term stability and strength to our earnings.

On top of this, in the third quarter we added a number of cost-cutting initiatives across the globe. Our aim is to match our structural costs with the slower pace of demand that we are experiencing.

These include three plant rationalizations in North America and Western Europe, broad based variable cost reductions in manufacturing and logistics, as well as focused initiatives to right size our overhead costs for our current level of revenues. The impact of these initiatives will begin to impact our results in the fourth quarter, and will become increasingly evident in the first two quarters of 2014.

In parallel with the adjustments to changing market conditions, we have begun the process of planning the separation of our company into independent bearing and steel companies. We have engaged outside advisers to assist us, have project teams focused on the critical areas, and the process is proceeding very well.

We expect to be in a position to brief you fully regarding our plans, and the impact on our results in conjunction with year earnings announcement. But early indications are that the cost additions and dysynergies will be lower than those we estimated in our earlier analysis.

While the results of the third quarter were below our expectations, they once again reinforced the earnings power of the transformed Timken Company. Despite extreme weakness in several of our most attractive segments, most noticeably, the global mining markets, we achieved double-digit margins on a year-to-date basis.

We remain committed to utilizing our strong balance sheet for attractive investments through a combination of share buybacks, dividends, capital investment, and bolt-on acquisitions. We are convinced that the combination of strong strategic plans, focused tactical actions to improve our cost structure, and more effective use of our balance sheet, will move us back toward our target margins and stronger returns to our shareholders.

We appreciate your investment in the Timken Company, and your confidence, as we complete the process of adjusting to today's economic reality and positioning ourselves to go forward as two focused independent companies. Now here is Glenn, who will review our financial performance in the quarter in more detail.

Thanks, Jim. Sales for the third quarter were $1.1 billion, a decrease of $81 million or 7% from 2012. The decline is a result of lower demand across the company's broad end markets, as well as the impact of the company's market strategy in the mobile industry segment. The decrease was partially offset from acquisitions and pricing.

From a geographic perspective, sales in North America and Asia were down for the prior-year, while Europe was essentially flat. Gross profit of $252 million was down $47 million from year ago. The decrease was driven by lower volume, negative mix and higher manufacturing costs, which were partially offset by lower material costs and pricing.

Gross margin of 23.7% for the quarter was down 250 basis points from a year ago. Impairment and restructuring costs primarily related to the previously announced plant closures in Saint Thomas and Sao Paulo, totaled $4 million in the quarter, down from $12 million in the same period a year ago.

For the quarter, SG&A was $159 million, up $6 million from last year, due to acquisitions and costs associated with the steel business separation. Partially offsetting this was lower variable compensation, and reduced discretionary spending. SG&A was 15% of sales, an increase of 160 basis points over last year.

As a result, EBIT for the quarter came in at $89 million, or 8.4% of sales, 340 basis points lower than last year. Net interest expense of $4.4 million for the quarter was down $2 million from last year, primarily driven by higher capitalized interest and lower average debt balances.

The tax rate for the quarter was 38.2% compared to 36.7% last year. The increase was primarily due to nondeductible costs related to the steel separation project, partially offset by a higher percentage of the company's earnings coming from lower tax rate foreign jurisdictions. Looking ahead, we continue to expect the full-year tax rate to be roughly 33%, with the fourth quarter at around 25%, comparable to last year's fourth quarter.

As a result, net income for the quarter was $52.2 million, or $0.54 per diluted share, compared to $0.83 per diluted share last year. Excluding the cost related to the plant closures, earnings per share were $0.56 for the current quarter compared to $0.92 a year ago.

Now I will review our business segment performance. Mobile industry sales for the quarter were $348 million, down 12% from a year ago. The decrease was driven by lower volume, lead by mining, agriculture and heavy truck. In addition, there was a $30 million decline due to the company's market strategy in the segment. The sales decline was partially offset by the Interlube Systems acquisition.

The mobile segment had EBIT of $29 million, or 8.4% of sales, compared to $38 million, or 9.5% of sales, last year. The decline in EBIT was driven by lower volume, partially offset by lower plant closure costs of approximate $5 million, and lower material costs.

The outlook for mobile industry sales for 2013 is to be down 11% to 13%, primarily due to lower mining and rail demand. In addition, sales were impacted by lower light vehicle and heavy truck demand, resulting from the company's strategy of focusing on markets which offer long-term value.

For 2013, we now expect the final piece of this market repositioning strategy to reduce sales by approximately $100 million. Partially offsetting the sales decline is growth in the automotive after market business.

Process industry sales for the third quarter were $308 million, down 1% from a year ago, due to lower volume in both the industrial OE and distribution markets, partially offset by acquisitions and pricing. For the quarter, process industry's EBIT was $51 million, or 16.5% of sales, down from $60 million, or 19.3% of sales, last year.

The decrease in EBIT was primarily a result of lower volume, partially offset by favorable pricing and lower SG&A. Process industry sales for 2013 are expected to be down 7% to 9%, driven by weaker OE demand, primarily in the metals and wind energy markets, as well as industrial distribution demand. Partially offsetting the lower end market demand are acquisitions, which are expected to add approximately 5% to the top line.

Aerospace sales for the third quarter were $76 million, down 9% from a year ago. The decline resulted from lower demand in commercial aviation and critical motion, partially offset by improved demand in general aviation. In addition, we experienced is slower-than-expected ramp up of shipments to defense customers, which will be delivered in the fourth quarter.

EBIT for the quarter was $5 million, or 6.4% of sales, compared to $8 million, or 9.2% of sales, the year ago. The decline in earnings was primarily driven by lower volume. For 2013, we now anticipate aerospace sales to be down 3% to 5%, reflecting decreased demand in critical motion, civil aviation and defense.

Steel sales of $351 million for the quarter were down 7% from last year. The decline was primarily due to lower demand in the industrial sector, which was partially offset by increased mobile and highway demand. In addition, surcharges were down approximately $5 million, due to lower volume and raw material costs.

EBIT for the quarter was $29 million, or 8.3% of sales, compared to $50 million, or 13.2% of sales, last year. The decrease resulted from lower volume, unfavorable mix, and higher manufacturing cost including approximately $8 million incurred for scheduled maintenance in the quarter. Partially offsetting the decline were lower material costs.

Steel sales for 2013 are expected to be down 20% to 22%, due to lower demand and customer destocking in the oil and gas and industrial markets. In addition, surcharges are expected to be down for the year.

Looking at our balance sheet, we ended the quarter with cash of $418 million, and net debt of $59 million, which compares to a net cash position of $107 million at the end of last year. Operating cash flow for the quarter was $112 million, driven by the company's earnings and lower working capital requirements. Free cash flow for the quarter was $25 million, after capital expenditures of $65 million and dividends of $22 million.

During the quarter, our company purchased roughly 440,000 of the shares for roughly $26 million, bringing its year-to-date repurchases to 1.9 million shares or $107 million. The company has approximately 5.6 million shares remaining under it's current board authorized program, and expects to continue to repurchase shares during the year.

The company's unfunded pension obligations were approximately $235 million at the end of the third quarter. The company does not anticipate making discretionary pension contributions in 2013, beyond the amount contributed in the first quarter, as it expects those pension plans to be essentially fully funded by the end of the year, given the current interest rate environment.

As Jim commented, our revised 2013 outlook reflects a weaker recovery in the global economy. We now anticipate an overall decline in sales for the year of around 13% compared to 2012, drive primarily by lower demand and surcharges, as well as the impact of our tactical shift in mobile industries.

We expect earnings per diluted share to be the range of $2.70 to $2.90. Included in our earnings outlook are costs of approximately $0.13 per share related to our two previously announced plant closures, and roughly $0.07 per share for one-time costs associated with the company's planned steel business separation.

For 2013, the company expects cash from operating activities to be $450 million. Free cash flow is expected to be $5 million, after capital expenditures of $320 million, and dividends of roughly $90 million. Excluding the discretionary pension contributions made in the first quarter, free cash flow is expected to be around $70 million for the year.

Looking ahead to next year, excluding one-time implementation costs for separation, the company expects sales and earnings to improve as a result of cost reductions, the company strategic initiatives, as well as a gradual improvement in the economy. As per our practice, we will be providing 2014 guidance with our year-end earnings announcement anticipated in January.

In addition, we should have our form 10 filed with the SEC, and we will provide additional information regarding our proposed steel separation at that time as well. This ends our formal remarks and we will now be happy to answer any questions.

(Operator instructions)

Eli Lustgarten, Longbow

Good morning, everyone. The results not only being a lot lower than we expected, but the dramatically revised guidance. Can you maybe talk about what went on during the third quarter that did result in such a drastic shift in the outlook? Because this is a very, very material revamping of what's going to take place the rest of the year.

So when did you see it? It probably almost wanted a pre-announcement, or something, based on this kind of dramatic shift. So, can you give us some idea of what happened that finally caused you to bite the bullet, and just dramatically lower everything across the board?

Eli, this is Jim. I think the announcement that came out from Caterpillar yesterday puts it in perspective. I mean, Caterpillar came out with a very similar message. And it is a reflection of what we thought, looking forward, was going to be an inflection point in demand, when they, and companies like them, got through their inventory adjustment, and we continued to push that out.

And we continued to sustain the ability to operate the company at a $5 billion revenue level. And it was a recognition that, in fact, that inflection point is not visible to us, and therefore a decision to take actions to right size our corporation to be profitable at $4.5 billion, $4.4 billion, $4.3 billion, whatever the current run rate is.

And so, it is that that changed the guidance from that point of view. The current performance was simply a reflection of the operating performance of the company, as the demand that we anticipated didn't come back.

And as we look at going forward or so, I mean we are getting much lower levels of profitability across all three segments. Is it fair to say that almost all of it is just strictly volume related, there's nothing impinging the recovery to double digit margins in both steel and mobile, and particularly the process going back to the 20% level? I mean, there are just (technical difficulties) big changes there, that's just all structural, this is all volume related more than anything else?

Again, let me step back and I will answer it at a global level, and I will let the business presidents then talk about the individual segment. If you look at the company that we are today, we see no reason that we cannot bring this company back to the target level of profitability that we have talked to which is the 20%-ish level EBIT margins in process, and the low to mid-teens in the aerospace and mobile business.

And with some volume, the steel business came back up to the mid-teens. There's nothing structural going on. It is volume.

But it is also a reflection that as we have implemented our market strategies shifting to higher margin, more attractive segment, we have reduced the size of the company, and we hadn't taken the appropriate reduction in the infrastructure costs of the company, and we're now in the process of implementing that structure. Since you asked about process, let me turn to Chris and let him talk about process and mobile, and Tim can talk about steel.

Yeah, good morning. Let me walk you through the process explanation so that you have it.

The third quarter revenue, although it was relatively flat, there was clearly a disappointment with the global distribution. So there is a mix shift underneath that revenue that I'll explain here, in a minute, from a margin perspective.

We saw the weakness in distribution around North America and Asia. It was offset by some improvement in Europe.

We continue to see a drag relative to our over exposure to mining infrastructure and energy within our global distribution business. We also see distributors relatively cautious on inventory, and we did have some inventory destocking in the quarter. So what we see from a revenue perspective, our second half revenue, at this point, we're estimating it's only going to be up 2% relative to the first half, which is significantly below where we were expecting relative to a market recovery.

On the margin, let me bridge it for you to third-quarter 2012. There are two primary drivers underneath the relatively three point differential, the 19.5% to the 16.5%.

The first one is back to the revenue. Although the revenue was flat, there was a mix shift underneath that revenue. The high profit distribution revenue decreased, but it was offset by lower margin acquisition revenue.

That acquisition margin is also being affected by acquisition accounting. If you take that whole shift there, that was roughly 2% of the drop from the 19% to the 19.2% to the 16.5%. The balance of it was FX, just negative currency.

So there's the bridge on it. We were, obviously, disappointed with the revenue performance, but it was heavily driven by weakness in our global distribution business and that mix shift.

So moving forward, we are now positioning the process industry group for a slow growth environment. Although we have been clearly managing the costs, we will now begin implementing more structural actions to right size the global infrastructure, versus managing with an eye towards a market recovery. We believe the combination of any market recovery coupled with the cost reduction will get us back into the 19% to 20% EBIT range of this business.

This is Tim. For the steel business, it pretty much is a volume and mix story year to year, with industrial markets being off, oil and gas being up modestly, and mobile and the highway actually performing pretty well. Nothing structurally that we see that will affect that ongoing. It is just where we stand in the market recovery.

And can I just sneak one thing? Can you talk about pricing, of course, because that was a big thing with Caterpillar yesterday also? So, any shades of price competition the we're hearing in other sectors?

Pricing on the process side is not a significant issue. Obviously it is not an issue much at all in distribution.

There is some price competition going on, on the large capital equipment OE side of the business. But once again, it's a small enough portion of the business that it is not significantly material.

On the steel side, Eli, you know everybody has gone through their negotiations right now on 14 contracts, which have been a little bit slower to come in than usual. We are still seeing a lot of product coming in from offshore, as well as the domestic capacity coming up.

So, there is a bit of pricing pressure going on right now. But, obviously, we have got a little bit of work to do on the contracts before we got a real good read on that.

Great, thank you very much.

Stephen Volkmann, Jefferies.

Hi, good morning. I'm still trying to understand, and I apologize, I don't want to beat this too hard. But when I look at your performance this quarter against any other diversified industrial company, other than Caterpillar, I just see a huge divergence here.

Your largest competitor provides regional and market breakdowns, and hasn't really seen anything like this kind of thing. So, I'm still struggling to understand, unless Caterpillar is just a way bigger piece of your business than I realized, it just seems like there's got to be more going on there.

I mean, even the aerospace business is significantly weaker than any of the other comps I can find. So again, I am just struggling, and I'm trying to understand, and obviously, what I'm trying to do is think about how, as we move forward, what a recovery scenario or a bottoming process might look like.

Steve, let me take a high-level look at this, but I'd like to let Rich talk about aerospace, because aerospace is an anomaly within the rest of the four segments. It is a different issue.

Yeah, Steve, on the aerospace side, while we still have some weakness in the critical motion markets, some of the things that Glenn alluded to. The miss, sequentially, from the second quarter was really some internal execution shipping delays with some defense contracts.

And we expect in the fourth quarter to be back to double-digit EBIT margins, and up sequentially on revenue. So that's the anomaly that Jim referred to.

Okay. And if I can just come back and look at the company as a whole, and I think this is a case where you have to look at the company as a whole.

Over the last five to seven years, we have been shifting this company to focus on markets where our knowledge created value for customers. And those tend to be infrastructure markets. Those tend to be heavy markets.

And they have increased our exposure to the mining markets and infrastructure markets of the world. We are in a situation, globally, where those markets have taken a dramatic downturn. And we had operated, as Chris reinforced, on the believe that they would be coming back relatively quickly once this inventory bubble came through.

And these are infrastructure markets in India. These are infrastructure markets in Southeast Asia. These are infrastructure markets in Latin America.

And because of our product range, and that's a combination of large SBQ forging bars, and the fact that we are, historically, the leader in the tapered bearing market. We are much more prevalent on mobile equipment that is used in those markets.

And so, then when you compare us against our competitors, this is a broad market exposure issue for us in a market that's just in a very weak period of time. And that is the answer.

Now, we believe, to your point, what is the bottom of the market? We believe, clearly, we are seeing the bottom of the market. We are preparing, we're continuing to see the markets improve, but they are improving slowly.

And we're simply telling you that we are now going to operate the company on the basis that we see those markets improving slowly, and we're going to take action to improve our cost structure. I'm sorry, not going to, we are taking action to improve our cost structure, so that we can achieve our target levels of profitability at this level of business. And we know how to do that.

Okay. And my follow-up is just, you talked about adjusting the cost structure for this new level of business. Is this a major corporate global restructuring that you are starting out here? And are there going to be some significant costs that we are going to have to either run through the P&L or call out going forward?

As we have told you, we've known, and particularly this is true on the bearing side of the business, that we, as a result of the market initiatives that we've done, that we have a need to continue to restructure the Company, and that we would see restructuring charges coming through the P&L on the tune of somewhere in $20 million-ish, $25 million-ish a year. That's true in 2013, and we expect that to continue.

We do not see this either being a charge coming through, absent the separation issues that we've got going on, that would be much more significant than that, but the work's not done. And so, we are not ready to give guidance as to the specifics about what that would be.

Steve, this is Rich, I would add that the separation of the bearing and steel business is really being used as a catalyst to review the structures of what is going to be the two companies. So, we are going to have two smaller, flatter, market product focused companies. And again to Jim's point, we have already factored in a separation cost, and we're looking at that more collectively now.

All right. So, you guys have incremental margins of 50% or worse here this quarter. And it looks like that will happen again next quarter. Can we think about incrementals at similar levels when things bottom?

Yeah, Steve, obviously, from our standpoint, and Jim alluded, we are operating at right out about 55% capacity, and it 's volume driven, and, frankly, it's also mix driven. So, when we look at the decline in the decremental margin, that mix plays a part because actually we've had favorable pricing. As we go forward, again, with the issues of taking costs out; some of the strategic initiatives that we have put in place that will now be coming on line; and the help of an economy that, rather than being robust, at least it is expected to improve as we go forward; you should see us leverage that well.

Okay thanks.

David Raso, ISI Group.

Hi, can we just talk about the balance sheet usage? The amount of share repo in the quarter, how much was that?

For the quarter we have repurchased, I think, were 440,000 shares so call it around $26 million.

Okay. So, I know the authorization, at the moment, might not allow these larger numbers. But can you help us understand, I have asked the question on the spin conference call about is there anything about the spin to delay your use of the balance sheet?

The short answer was no.

So I'm just trying to understand why we're not using the balance sheet more aggressively? Right now, you could put $750 million to work, and your net-debt to cap is only 31%. I appreciate you have $125 million for the spin costs.

So let's just go ahead and use $625 million of it for repo. At the current price, you can buy back 12% of the company. So can you help us understand, especially with the operational under performance, why are you not rewarding shareholders with a stronger use of the balance sheet?

A great question, Dave. And as we said before, when we went through the third quarter and, first of all, year to date, as you know, we bought back around 2 million shares. So, we redeployed over $100 million just in the share repurchases, let alone the dividends that we provide.

When the strategy committee was formed by the board, it was really to look at three things, right? It was the separation, it was capital structure, and it was governance. And address all of the issues.

And so coming out of that, as it relates now to the capital structure, we have said that we will use the balance sheet more. And especially, with pensions now being settled, with capital expenditures coming down, and the positive free cash flow of the company, that you should expect that between, call it -- at least in this case -- the buybacks, will become a much higher percentage of our return of capital than we've had historically.

So, I wouldn't get too focused on any one particular quarter, because there a lot of things that come into play with being in the market. We're, obviously, looking at it over a period of time. But, to get to 30% leverage, $600 million-ish.

If you look at the remaining shares that we have over under our already existing share repurchase program, we have got around 5.6 million shares, which would get you, call it, roughly halfway there. So $300 million-ish, plus or minus 15% leverage, obviously before going back to the board for additional shares, were that the direction that the board wanted to do.

The only caveat, we would say, is we will currently be in the market repurchasing shares for the rest of this year and continuing to go forward. That the board also wanted to make sure that as we go through the separation, which, again, is targeted in the middle of next year, we wanted to make sure that both companies stand alone, had strong balance sheets, and those new companies will reflect on their capital allocation strategies, and have financial flexibility.

So, I think it is fair to say we will be active in repurchasing shares as part of our capital allocation strategy. Whether we get up to the 30% that you have quoted, we will report out, obviously, each quarter.

But you will see us continuing to be in the market repurchasing our shares. Again, relative to where the shares are trading, and relative to other uses of capital. But that should be your expectation.

Can we get a little more quantification between now and the spin? How much leverage do we expect to take on? I mean, you have to appreciate guys, if you do your fourth-quarter EPS number, that will be up over five quarters you're averaging $0.80 a quarter.

And generally at a pretty tight band. So the idea of doing a $1.75 a quarter, for your 2015 target, is a moon shot. So while people appreciate the spin, it seems like this is the moment to utilize the prior strength, when those infrastructure markets were strong, to reward your shareholders.

So at $0.80 a quarter, I'm just trying to understand why can't we come out and be a little bit stronger, and this is how we plan to the balance sheet before the spin. To help people navigate through what is now, officially, an $0.80 per quarter run rate company, until told otherwise.

Again, great question, and I don't think we are too far apart as far as where we are heading. That when we look at, first of all, you commented on a 2015 target.

As you know, we established those targets, three-year targets, at the beginning of each year, normally in February, and it's a target. And we don't, if you will, update that target until February of the following year. Unlike our annual guidance that we do, obviously, each quarter if you will.

A lot has changed since February of this year. In fact, we have taken down our guidance for the year twice. So it is fair to say that we're focused on the current environment that we're in.

Where we seem to be agreeing with where you are trying to lead this, is that our balance sheet is under levered, and we agree. And, again, part of the strategy committee was an assessment that we will utilize more of the balance sheet. We have been in the market, we were frankly in the market in 2012, where we bought back over $100 million of our stock as well.

We have room on the balance sheet, and we will allocate a higher percentage of our capital to share repurchases and dividends, if you will. Having said that, we did say, yeah, we want to have a strong balance sheet for the separation. So, whether we hit your number or not, and again that's yet to be determined, we may or we may not.

What we are telling you is that we will be in the market, we are repurchasing shares. We believe is it is a good return of capital for us in the current environment.

But when you talk about this $0.80 now we are doing per quarter, again, we are in an economic environment, as well, that we are operating around 55% capacity. So from our standpoint, while there is a lot to be done on cost side and mix, if you will, we believe we are performing well, relative to the market environment we're in.

And again, we will take out additional costs to even perform better. But our expectation is we will start to see the improving markets as we're going forward. So it is not a one or the other.

We're going to continue to invest in the business. We expect to continue to see improved results in our business, and we will continue to see more capital redeployed for repurchasing shares which, obviously, are at attractive levels, our stock price, right now for that purpose of our capital.

Well, one last question to help us somewhat frame the cost savings that you're (technical difficulties) the actions you're starting to take. If I gave you, say, a modest improvement in revenue from this run rate, just modest, the mix doesn't get really any better. Simply from the cost actions, how much would you expect, just parameters here on, for an $0.80 per quarter company right now, with just a little better volume but more about the cost actions?

How much can you improve that run rate with very modest help from the end market? Like how significant are these cost actions?

Again, a great question. We will be providing a pretty detailed view, especially of 2014 in total, but and how we're going to get to that number in January. What we're prepared to say, and what we have said, frankly, is, again, to your point, the economy we are not counting on helping us.

It is going, we believe, to be a modest improvement next year. So, the improvement in our performance is going to come through execution and cost reductions.

And you have heard Jim and Rich, in particular, talk about the fact that especially in light of the separation that we are going through, which net would have added costs, we're looking at streamlining the organizations for the two new companies so that there's an opportunity to take out substantial costs as we go forward. Rather than give you parameters, we will give you our business plan, if you will, our outlook for 2014 in January, with cost being a component of the plan.

I appreciate it. Thank you for the time.

(Operator instructions)

Ross Gilardi, Bank of America Merrill Lynch.

Could you give us a sense have you commented at all on your steel pricing negotiations? You mentioned that you are seeing some volumes coming in from offshore. And domestically some of the new capacities. Is the new capacity having a more pronounced impact on the environment than you originally anticipated?

Well, we are certainly seeing the capacity show up in the low end of the range from a size point of view. So there's a little bit more pressure there. We are seeing product coming in from offshore really across the board from a size range point of view. So just a little bit of everything.

I think, Ross, this is a Jim, if I add a little more color to that. The issue that we're facing in the market is far more of an overall level of demand issue than it is a competitiveness issue with new capacity coming in. I mean, that's a miss from where we thought we would be, is that the absolute level of demand is lower than we thought it would.

And I mean that in a global sense. Just pulls in Tim's comment about stuff coming out of Asia. Those markets are slow, and that creates an influx of demand.

And then on top of that, it is the industrial markets, and the oil and gas markets, being just generally slower. That on top of, obviously, there is an impact from the new capacity coming in.

And then in terms of the company has, obviously, gone through a dramatic repricing strategy over the last five years. I mean, do you find yourself in a situation where you priced yourself out of the market in some of your key end markets? And as you mentioned, you're running at 55% capacity utilization.

But yet, it doesn't sound like you are planning on shutting a lot of capacity, you are talking about a few facilities. So, can you help us think about this? And is there risk you are not cutting enough capacity, and that you're just sitting on a lot of underutilized overhead in a pretty soggy demand environment?

Again, this is Jim. Let me put that in some perspective. If you look at the market environment that we are sitting in today, it is remarkably similar to the market environment we had in 2001.

With the North American auto market is very strong, the global commodities markets are weak. And in those markets, we were a breakeven company.

As we have gone through our market strategy, what we have done is we have used pricing to shift our market focus to markets where we create value. And the fact that we are here, today, at double-digit margins, despite being in a weak commodity market is, in fact, what I said is a testament to the definition of the new Timken company. We will continue to operate this company at relatively, compared with the typical steel and bearing companies, at relatively low levels of capacity utilization, because we are a very high service market.

And, we will focus on creating that value. We did not see a need for large capacity rationalization, given the markets that we choose to serve, and the places that we create value in the marketplace.

This is Rich, I would add to that, from a bearing perspective, we clearly priced ourselves out, knowingly out, of a significant amount of heavy truck, automotive business over the last five years. We have not priced ourselves out of business in any other markets. If anything, we have held our own or gained global share around those other markets.

And, as we have indicated, on the semi-truck and automotive business has been dropping off to the tune of $100 million, $200 million a year for the last several years, and is coming to an end. And that has certainly offset our penetration gains and growth in the other segments, and as that ends, you'll see that those penetration gains will be more noticeable in the other segments.

Does the preparation for the spinoff, in any way, impede your ability to restructure the Company as much as you might need to?

No, quite frankly, you heard Rich speak to that. It provides a catalyst. Because it gives us the opportunity to look, literally, at everything we are doing, and look at better ways to do it. A little bit of the discomfort we're in, though, is it adds a little bit of confusion in terms of our ability to get clarity as to the extent of the impact and the timing of that impact.

Because, it is the right sizing of the Company is intermixed with the thinking about how the two companies will stand up as corporate entities. So, that's a little bit of the confusion, and a little bit of the lack of clarity we are providing at this point.

And the other thing I would add to that is we did close what was, historically, a sizable automotive plant earlier this year, started the prior year. So we have closed another plant a couple of years ago. So, we have been taking that capacity off line within the segments where we have specifically lost share, and don't expect to get it back with a market recovery.

Okay, thank you.

James Kawai, SunTrust

Good morning. I just wanted to maybe, perhaps, look at the different businesses on a sequential basis. And on mobile, if we look, you strip out the charge, I'm assuming the $4 million charge was in the mobile business, it looks like sequentially we have a 60% decremental margin, if we adjust for Saint Thomas last year.

I was just curious. You alluded to transition costs to the new lower volume run rate. And I understand there's going to be formal restructuring charges coming down the road. But, was there anything in the quarter that you guys wanted to call out that would help me bridge that incremental margin decline?

James, this is Chris. No, not really, other than the volume decreases relative to our ability to take out the cost infrastructure. Clearly, that's a significant challenge for us.

And the volume in the third quarter, obviously, was weak. And relative to the exited business, which was about two-thirds of the drop, and then one-third of it by volume. And this is particularly an issue for us in off-highway markets, relative, that is really not part of the restructuring.

The restructuring is heavily focused on the automotive arena, if I can use that terminology, relative to our manufacturing. On the off-highway side, although we have significant weakness, obviously, in mining and agriculture and some of these other areas. Our ability to get the costs out is a challenge relative to the volume decreases that we saw, which clearly were more than what we anticipated.

Great. And then on the process side, the margins definitely seemed to hold in there much better, but it was more of a topline thing. If I layer in the acquisitions that you have been completing, and strip those out, it looks like organically, even on a sequential basis, you saw a mid-single digit degradation in the margin run rate, fully adjusted. Was that mainly on the distribution side that you saw another step down?

Well, it is a similar explanation. With the weaker volumes, our manufacturing infrastructure is running at less than desired volumes. And, once again, our ability to extract the costs out of that infrastructure, relative to what we anticipated the volume level to be, is a challenge.

Now, we are significantly focused on that problem. So, that's a little bit what Jim was referencing. And we are, now, no longer going to position ourselves, from a manufacturing perspective, from an anticipated recovery perspective.

Got you. And then finally, most of the component suppliers into Caterpillar, and the other large OEMs, typically get a three month to six month production schedule or lead time notification for their production demands.

I mean, was there something that happened during the quarter? Was there a sudden break? And can you give us a sense for when it was, and how it might have evolved versus what the normal course of business is? Cause I imagine you guys had production schedules in advance.

Yes, we do. And we are a very large supplier of Caterpillar. So, we have really good insight into that.

I don't want to comment on Caterpillar internal data. That is really something I'd rather not comment on. Obviously, you heard from them, there are significant issues going on, particularly in the mining area, which really dominates our business with Cat.

We are not as big in the construction markets, as an example, as we are in mining. But suffice it to say, we have been seeing issues for quite a while now.

There was not some huge event this quarter. But I really don't want to comment on internal Caterpillar data.

Got you, great. That's helpful. Thank you very much.

Steve Barger, KeyBanc Capital Markets

Hey, good morning. You gave some commentary on why your exposure to mining infrastructure caused you to under perform some of the other industrial companies. So, can some of the business leaders talk about what indicators they look to, from a forecasting standpoint, to help us get a better handle on the model, or to think about when the turn might come from you?

Yes, we are looking at industrial activity. And we're looking at industrial activity type of things. And we're looking at what I'll call commodity activity, and I will leave that undefined, there's lots of different ways you can look at that.

But, I don't mean that just via pricing. Because the activity levels of the mines, as an example, is very, very important to our global after market business.

So we're watching, obviously, those trends. We're watching the capital equipment market from that perspective as well, in terms of capital investment in primarily in infrastructure for us.

And we're watching energy. Energy is a significant precursor to our business, at least on the mobile process industry side.

Steve, if I could step above that, cause this bridges the fact that our business has served the same markets from different perspectives. But the best indices to correlate with Timken's performance are the IPIs, industrial production indices, that relate to the sectors that Chris talks about.

They are similar, I think Tim, on the steel side from that perspective. But we see, though, in times of transition, is then you see inventory adjustments to that. And if you look at both the mobile and the steel difference in our outlook, as opposed to the difference in the performance in the third quarter, the real question is trying to call when those inventories change.

And we were anticipating that this inventory reduction would dissipate, and the weakness in the mining sector, and again Chris talked about the actual end use mining sector, has been exacerbated by the fact that A -- they are not buying new equipment. But B -- even when they're operating, they are cannibalizing their equipment for spares. And then lay on top of that, we're going through a period where some of our industrial distributors, where we serve those markets are taking their inventory levels down.

And so, you get a double or triple whammy in those periods of time where you're trying to see the inflection point. And that is what we're seeing, right now.

That is what gives us optimism as we move forward that the demand will continue to increase gradually. But it also triggers us to resolve to go through the process on the margin and right sizing our manufacturing plants, and right sizing our overhead structure, so that we can get back to our target levels of profitability at this level of revenue.

So how many quarters would you say that that inventory reduction has been taking place and underperforming the end markets? And from your sales force commentary on the ground, is there an expectation that there's another two or three quarters of that or--?

Well, the first answer is, if you go to the middle of 2012, that is when we began to talk about it. And again, Caterpillar, in the earlier comment, they are not that big as a customer from that perspective.

But, they have been the most vocal, and transparent, in terms of their own inventory reduction that is going on. So you can see can in those sectors over those four, now five quarters. And, effectively, the intent of my comments is we're now operating the company on the basis that we are not going to see a dramatic--we are not going to try to guess when that dramatic change will come.

My history in these markets is when it comes it comes, and it comes with a fairly sharp inflection point. We're not going to sit and wait for it. We're going to take action now to drive profitability, and take control of that profitability ourselves.

Understood. And as you look at this right sizing towards the current run rate of $4.4 billion, $4.5 billion, how are you modeling your future theoretical upside revenue? Were you previously at $7.5 billion, at 100%, which I know you don't want to run at, is that going down to $6.5 billion? And what utilization rate do you want to gear towards on a forward revenue level?

I don't think trying to look at capacity utilization, I made that point earlier, I don't think it's the right measure for the Timken Company today. We are able -- I mean, just for example, we are now, in our steel company, we are a company that can achieve double-digit margins operating in the mid-50%s capacity utilization.

That is a good thing because it allows us to have very high service levels. I think you just come back and look at it an overall revenue level, we're right now operating on an annualized revenue level of $4.3 billion, $4.4 billion, and we're going to take our actions around that kind of number, so that we can move ourselves back towards attractive levels, target levels of profitability as we're there, and seeing a gradual improvement in the market.

Yeah, I would just add, the steel business has not taken off and is not taking off any capacity. It's variabilizing costs. The bearing business has closed two automotive heavy-truck focused plants that were certainly, at one time, $300 million-ish of revenue.

But, the expectation would be that, again, those markets wouldn't necessarily come back. And we would be able to invest and grow in other markets as those come back in different products and size ranges.

Just to clarify, we're just accruing on the steel side to account for the differences in the marketplaces. And we are actively doing that.

And again, to come back to the strategy of the Company, we continue to see opportunities to grow the Company. We talk about the issues of acquisition accounting and process industries, but we've done four acquisitions this year.

They are moving us. We are launching new products, expanding our bearing range. We have new capabilities coming on in the steel business. So there is organic growth, as well as market growth, driving us forward.

We just got to adjust so we can improve our profitability at the current level of sales. That's simply what we are going through.

Got it. And one final question for Glenn. Did you give the number specifically for the acquisition in the quarter?

And the spin-related costs in SG&A? And how should we think about the quarterly spend in 4Q and going forward?

On the separation related expenses in the fourth quarter, really none to speak of in the third. But in the fourth, I think we talked about $0.07 a share. So rounding up, call it around $10 million of earnings that would have impacted that number. And what was the first part?

Was there acquisition related costs?

Well, again, [I'll restate] for the acquisitions for the quarter, it was around, call it on the revenue side, in total around $20 million plus or minus and that includes what was in process as well as in mobile. But, from a profitability standpoint, again, it only generated a couple million dollars of earnings.

But, would have had, if you backed out purchase price accounting mid-teens operating margins. So, that obviously will pick up as the quarters unfold.

And was there anything else unusual in the quarter in SG&A, and the [$159 million]?

Just in the SG&A?

Yeah.

No. Nothing, no.

Thanks very much.

Holden Lewis, BB&T Capital.

Great, thank you, good morning. When I think about the idea of restructuring the business, you built these businesses with a pretty specific global view in mind, right? I mean the steel business, you've done some very deliberate investments there, and aerospace is waiting, that looks pretty positive.

Your process, you obviously have a very good global view of. So, philosophically, I understand why you might restructure to preserve margins currently. But, you are, historically, pretty profitable for this level of revenues.

And I just wonder if cutting the structure further, is that prudent, unless you have really changed, not just the next couple of quarters view, but the next few years view? Any thought on that?

This is Rich. I agree that wouldn't be prudent, and that is not what we are doing. Take it back to, as we have exited the light vehicle and heavy truck business, that would be prudent.

So, we've got to get that portion of our infrastructure right sized, which this isn't a big catch up, we've been doing that. But we lost another couple hundred million dollars of revenue this year in that space. And I would take it back to restructuring around two smaller, more focused companies which gives us an opportunity of layers and other things. And Time, you want to comment on steel?

On the steel side, it really it is about standing up an independent company in the most cost effective way. We have always run pretty lean on S&A. So, as we add the functionality, we need to be independent. We're just taking a look at everything else we do to make sure we're spending it appropriately.

When you talk about restructuring, that's going to probably fall, disproportionately on the mobile side still?

Yes.

Okay.

I would say two things, that and the corporate infrastructure of separating the businesses.

Got it, okay. And did you suggest that the goal would be to be able to achieve your profit goals at this level of revenues? Is that the scope of the effort? Or were you referring just to mobile or the business as a whole?

I think, if you look at it, and you can play plus or minus a couple hundred million dollars of revenue, and the numbers don't change that much. In the bearing segments, the answer is, yes, we believe we should be able to achieve those kind of target levels of profitability that we have.

On the steel side, we have talked about our steel business as being a mid-teens business with upside from that. That wouldn't require additional volume on top of that. I will let Tim talk a little bit about the nearer-term profitability.

Well, I think if you look at how we are performing, given our utilization rate, I would say that the steel business is actually performing pretty well, and only gets better as our mix and our volume improve. So, the fact that we can hit these kinds of margin levels at an average of 55% capacity for the year, I think is pretty impressive relative to the rest of the industry.

And I would just add on the bearings business, Holden, to your point, we are not restructuring the business down to achieve peak margins on these sorts of revenue levels. We are adjusting the size of the business down to achieve lower end of our targeted range of margins in this business level, and then expect to leverage that very well as our markets recover. So, we believe we are approaching this prudently, to use your word earlier, given the markets and where we are at, and the separation.

Okay thank you.

And at this time, there are no other questions in queue. I will turn the call back over to Jim Griffin for any closing remarks.

Well, thank you. Again, we anticipated this would be a difficult call because these are surprising results, as we indicated, they were not up to our expectations. I think it's important for you to understand that we are continuing to redefine the Timken Company for long-term profitability. We appreciate your interest, your investment, and your patience as we get through this fairly traumatic change in our history. Thank you.

And that concludes today's conference call. We appreciate your participation.