特靈科技 (TT) 2002 Q2 法說會逐字稿

[JOE FIMBIONTI]: Thank you. Good morning. This is [Joe Fimbionti], the Director of Investor Relations for Ingersoll-Rand. Welcome to our Second Quarter 2002 Conference Call. We released earnings at 7:00 AM this morning, and the release is currently posted on our website. I’d like to cover some housekeeping items before we begin.

This morning, concurrent with our normal phone-in conference call, we will be broadcasting the call from our public website. There, you will also find a slide presentation to augment the call. To participate via the web, go to www.irco.com. Click on the yellow link on the left-hand side of the screen. Please note that all the slides will be immediately available, and we will prompt you when to change them. Both the call and the presentation will be archived at our website and will be available later this afternoon.

Now, please go to slide number two.

Before we begin, let me remind everyone that there will be forward-looking discussion this morning, which is covered by our Safe Harbor statement. Please refer to our first quarter 2002 Form 10-Q with the details and factors that may influence our results.

Now, I’d like to introduce the participants on our call this morning. We have Herb Henkel, Chairman, President and CEO of Ingersoll-Rand, Tim McLevish, our Senior Vice President and Chief Financial Officer, and Steve Shawley, our Vice President and Controller.

We will start with formal presentations by Herb Henkel and Tim McLevish, followed by a question-and-answer period. Herb Henkel will start with an overview.

Now, if you would please go to slide number three.

Herb?

Thank you, Joe, and good morning, everyone. Thank you for joining us on our Second Quarter 2002 Conference Call. This morning we reported net earnings from continuing operations of 72 cents per share, which is consistent with our last guidance of 65 to 75 cents. These results were adjusted for restructuring and productivity charges in the new goodwill accounting standard we adopted in the first quarter of this year. The impact of the goodwill in our business segment can be found on Schedule Number 4, which is attached to the second quarter press release.

Now, please go to slide number four.

The macroeconomic backdrop for the second quarter seems to suggest that the overall U.S. economy continued to grow, driven primarily by strong consumer spending. However, most of our general industrial, refrigeration and construction machinery markets have not experienced the recovery of demand. We continue to have pockets of improvement in the quarter, but the overall demand picture is decidedly sluggish.

Total order rates for the quarter were up about 5 percent overall and up 3 percent when we exclude acquisitions. We had improved orders at Dresser-Rand, Engineered Solutions, Security and Safety and at Club Car. Bobcat and ARO solution orders were also up slightly, despite some pretty tough, difficult end markets. Offsetting this higher activity were declining orders in road machinery, portable power, climate control and our industrial production-related businesses and productivity solutions.

Even though the total level of orders was slightly higher than our original expectations, demand levels for our total business remained very, very erratic. We enjoyed good year-over-year demand increases in April and in May, followed by an unexpectedly large fall-off in June. You will recall that that’s the same pattern of results that we discussed for the first quarter. This high month-over-month variability and the growing concern about the overall economic environment in North America makes it difficult to have a lot of confidence in the sustained second half recovery of demand.

Please go to slide number five.

Also during the quarter, we fully implemented FAS Number 142, and we booked a pre-tax charge of $868 million related to asset impairment. This was a very rigorous, analytical process in which we reviewed all of our business units, historical performance and long-range forecasts for cash flow. In the analysis, we employed a discounted rate of 11 percent, which we believe is a conservative valuation assumption, and it’s more indicative of our long-term cost of capital. We concluded after completing the analysis that the only business that required an impairment charge was Thermo King, which I-R acquired at the end of 1997.

After strong performance from ’98 to 2000, Thermo King’s business deteriorated rapidly in 2001 and has remained depressed for the first half of 2002. Additionally, we believe that the long-range growth forecast used to determine the purchase price at the time of acquisition cannot be achieved over the next five years. Expected strong growth, especially in the overseas market in Eastern Europe and in Asia has simply not materialized at the levels that were forecasted in the purchase price and is not likely to accelerate in the near-term planning horizon. These factors have substantially reduced the FAS 142 valuation calculation. This charge does not diminish our enthusiasm for the Climate Control business but merely recognizes Thermo King’s markets have not developed this quickly as was expected in 1997.

The impairment charge will not impact our liquidity or access to capital markets. Our public debt has no financial covenants, and our $2.5 billion revolving credit line has a debt-to-capital covenant of 65 percent, calculated using GAAP accounting in place before – and I repeat – before FAS 142. Including the effect of the impairment charge, our debt-to-capital ratio was 49.7 percent at the end of the second quarter of 2002. Our target debt-to-capital will continue to be 40 percent, and we will make progress towards reducing our debt levels for the balance of 2002 and on into 2003.

Now, please go to slide number six.

During the second quarter, we also continued to implement Phase Two of the restructuring program. Total restructuring costs for the quarter were approximately $23 million, and we have spent $404.3 million since the inception of the program back in 2000. We’re coming to the conclusion of the restructuring program. To date, we’ve closed 27 manufacturing facilities, with two plant closings in progress. We’ve reduced headcount by approximately 6,500 employees. Restructuring activity has had a positive effect on margins in the quarter, and we continue to forecast that the program will add about 50 cents to full-year 2002 diluted earnings per share. The total cost savings for this program continue to be expected in the $200 million level.

Now, please go to slide number seven.

We make continued progress at growing our recurring revenue stream during the quarter at Hussmann and at ARO solutions. Our comprehensive service for supermarkets and convenience stores continues to expand with the addition of two new customers with 350 locations. There is also a number of customers with whom we are actively negotiating. We now have over 2,850 stores from a number of major chains covered in our national contract program. Total parts, service and installation revenue for Hussmann grew by 27 percent from last year and now account for over 30 percent of Hussmann’s revenues in the quarter.

Please go to slide number eight.

ARO solutions also continued to grow its aftermarket service business during the quarter. Total service revenue for the second quarter increased by over 10 percent compared to last year in a declining new equipment market. The total number of service contracts grew at an annualized rate of about 12 percent, and we’ve added about 850 new air care contracts, which now total over 5,300 worldwide. June year-to-date, 46 percent of ARO solutions’ revenues come from aftermarket activities.

Now, please go to slide number nine.

In Energy Systems, we continued to make progress in a difficult market. A total of 15 microturbines were shipped in the second quarter, 14 to external customers. During the quarter, we completed design work on our grid-independent 70 kW unit, and we’re currently testing the unit to confirm reliability and functionality. In addition, we’re testing the prototype of the new 250-kilowatt units and are targeting to build the first units in December for shipment in the first quarter of 2003. We have a number of current I-R customers who have expressed interest in the 250-kilowatt unit. Wastewater treatment applications, where we convert methane gas to electricity, is a key target market for this size unit.

Now, please go to slide number 10.

Additionally, we expanded the solutionizing aspect of the ARO solution business. ARO solutions won an exclusive contract from General Motors for service, maintenance and compressed air systems optimization for 42 of their automotive manufacturing facilities in North America. This is a pure service contract with a revenue stream of approximately 35 to $40 million over the next few years. We won the contract due to our experience, our reputation and our expertise to act in a consulting role for General Motors in the area of energy management.

Now, please go to slide number 11.

We also provide an additional interesting solution for General Motors in the area of electric vehicles. Club Car will produce at least 10,000 specially equipped electric vehicles for closed communities where speed limits are less than 25 miles an hour. This is going to add over $30 million of profitable revenues to Club Car in the second half of 2002.

Please go to slide number 12.

During the second quarter, we also made an important bolt-on acquisition that will expand our presence in electronic security. Security and Safety acquired Electronic Technologies Corporation, which we call ETC, a nationwide provider of specialty security system integration for access control, closed circuit television, and fire and safety systems. ETC has 33 offices throughout the U.S. and has over 4,500 customers, including many well-known companies, such as IBM and Aetna. ETC revenues in fiscal 2001 were about $40 million. This acquisition will help to expand the penetration of Interflex product lines in North America and our solution strategy in the areas of access control, time and attendance reporting and asset tracking. Additionally, we will be able to pull through Lockmetics electronic locks and recognition systems hand readers. All in all, we had a successful quarter despite some tough end-market conditions.

I’d like to now turn this over to Tim McLevish, who will now cover I-R’s business unit performance in more detail. Tim?

Thanks, Herb, and good morning.

Please turn to slide 13.

Reported revenues for the second quarter were up 5 percent to $2.6 billion. This increase is largely attributable to our recent acquisitions, a 29-percent increase from Dresser-Rand and a 19-percent increase from Engineered Solutions. On an organic basis, revenues were up 3 percent compared to last year’s second quarter. Excluding restructuring and productivity investments, operating income for the second quarter was $228 million, or 8.8 percent of revenues, compared to 9.7 percent last year after adjustment for goodwill amortization.

Interest expense was 59.5 million, compared to 61.1 million in last year’s second quarter. The decrease of 1.6 million resulted from lower year-over-year debt levels and a decline in interest rates. Our effective tax rate for the quarter, excluding restructuring, was 20 percent, compared to 32.8 percent for the second quarter of last year. As a result of ongoing tax-planning initiatives, we anticipate maintaining a 20-percent rate for the remainder of the year. Net earnings for the second quarter were $123 million, or 72 cents diluted earnings per share.

I would now like to take a few minutes to talk about the results of our operations. This review is on a comparable basis, adjusted to exclude goodwill amortization and charges related to restructuring and productivity investments in both years.

Please turn to slide 14.

The Climate Control sector, which includes Hussmann and Thermo King, reported second quarter revenues of $615 million and operating income of 42 million. Operating margins declined by 50 basis points to 6.8 percent of revenues, due primarily to an unfavorable shift in product line and geographic mix. A decline in higher-margin revenues in North America was partially offset by an increase in lower-margin business in Europe.

Hussmann revenues were up year over year, reflecting the acquisitions of NRS and Taylor. However, cautious spending and higher margin refrigerated display cases by major U.S. supermarket chains impacted the second quarter operating results.

Thermo King revenues were flat compared to last year’s second quarter. Lower volumes in North American trailer and containers were offset by increased activity in international markets. Sequentially, the North American markets for refrigerated trailers improved slightly compared to the first quarter. Based on this trend and industry data, we believe that this market has reached it trough and will begin to recover.

Now, please turn to slide 15.

The Air and Productivity Solutions segment includes our ARO solutions, Fluid Products, Tool and Hoist, and Energy Systems businesses. Second quarter reported revenues for the Air and Productivity Solutions segment were $323 million, compared to 335 million last year, a decline of 4 percent. The revenue declines spanned all of our major industrial product lines and were partially offset by continued growth in service and parts revenues, which were up 13 percent compared to last year’s. Operating margins fell by 160 basis points to 5.3 percent of revenues due to lower industrial volumes and increased spending in developing the Energy Systems business.

Please turn to slide 16.

Dresser-Rand revenues for the quarter were $235 million, up from 182 million last year, an increase of 29 percent. Excluding purchased components that are sold or passed through to customers at low margins, second quarter revenues would’ve been $192 million compared to 174 million last year, an increase of 11 percent. As a result of the volume increase and ongoing cost reduction activities, operating income improved to about $1 million, compared to a loss of about the same amount last year. However, earnings this year were negatively impacted by certain legal costs totaling about $5 million. Backlog in bookings continued to be strong. The backlog totaled $926 million at June 30, a 13-percent increase compared to the end of the quarter – end of the prior quarter.

Please turn to slide 17.

Engineered Solutions required revenues of $321 million, up 19 percent over last year’s second quarter, in large part due to the acquisition of Nadella in the fourth quarter of 2001. Organically, revenues were up about 7 percent. Operating income amounted to $27 million, or 8.4 percent of revenues, compared to 10.1 percent last year. The decline in margins was due to the acquisition of Nadella, product mix and higher benefit insurance costs.

Please turn to slide 18.

The infrastructure sector reported second quarter revenues of $729 million, up 1 percent compared to last year. New products, new product introductions and higher market shares of Bobcat and Club Car more than offset sluggish construction markets in North America. Operating margins declined to 12.6 percent of revenues compared to 13 .3 percent last year, reflecting lower demands in our higher-margin product lines.

Please turn to slide 19.

The Security and Safety sector continues to report strong results. The sector reported revenues of $364 million, a 5-percent improvement compared to last year, reflecting increased activity in both the commercial and residential security markets. Operating margins were strong at 18.3 percent, compared to 19.1 percent last year. The decline in margins reflects the continued investment in our Electronic Security solutions business, investments in products and market-related growth initiatives. As Herb mentioned, during the quarter, we expanded our presence in the Electronic Security business with the acquisition of Electronic Technologies Corporation, ETC, which is an integrator of specialty security systems.

Please turn to slide 20.

Moving on to the balance sheet, working capital as a percentage of annual revenues was 8.8 percent, a 210-basis-point improvement over last year’s second quarter. We continue to focus on reducing working capital to ensure it is in line with our activity levels and within our target range of below 10 percent of revenues. Our cash conversion cycle has improved by about nine days compared to last year, equally distributed across receivables, inventory and payables. We will maintain our focus on continuing to improve working capital management.

Please turn to slide 21.

Capital expenditures for the second quarter were $44 million, excluding about one million related to our restructuring program. This compares to 36 million for the comparable period last year, after excluding 11 million related to the restructuring program. We anticipate full-year cap ex to be in the 150 to $175 million range, which is in line with our plan. At the end of the second quarter, our debt-to capital ratio was 49.7 percent, which is 40 basis points higher than the second quarter last year. The degradation reflects the impact of the goodwill impairment charge, partially mitigated by our focus on cost flows and debt management. Debt levels at the end of the quarter were $3.6 billion compared to 3.9 billion at the end of last year’s second quarter.

Herb will now conclude our formal remarks with the outlook for the rest of the year. Herb?

Thank you, Tim.

Please go to slide number 22.

Even though many economic indicators point to improvement in the overall economy, we continue to experience erratic monthly demand for many of our key markets. At this point, there is growing uncertainty about the third and fourth quarters, and we do not have any convincing evidence to suggest we will enjoy a sustained improvement in demand for the second half of 2002.

Our current expectations for the second half of 2002 is for continued sluggish orders and sales activity similar to our first-half experience. Our previous forecast was based on a very slight recovery of demand in the second half.

Third quarter 2002 diluted earnings are expected to be in the range of 55 to 60 cents per share, excluding restructuring. Third quarter earnings reflect the order pattern experienced in the first half of the year and a normal seasonal pattern in our business.

Now, please go to slide 23.

Based on what I’ve described to you, we now expect full-year 2002 earnings to be at the lower end of our previously stated range of $3.00 to $3.25. The fourth quarter is expected to have higher earnings due to the normal season earnings improvements at Hussmann, Dresser-Rand and Engineered Solutions. Additionally, as was the case last year, we expect Engineered Solutions to benefit from the anti-dumping government relief, which is designed to compensate us for the negative impact on our pricing due to the dumping of imported bearings on the U.S. marketplace. The erratic nature of current end-market activity and increased uncertainty in the general economy indicates that there could be additional risk to full-year earnings forecasts. An economic scenario where market activities follows the pattern we saw in June – which I described to you before; it was off significantly from April and May – that kind of continued activity of June would take down our earnings expectations by approximately 25 cents per share.

Now, please go to slide number 24.

Free cash flow is expected to approximate $500 million before restructuring. This expectation assumes that our capital expenditures will be about $160 million and that we maintain our working capital level at 2001 levels, which is conservative, given our performance so far this year. Obviously, the $500 million target would be [defected] by the risk identified in our full-year earnings expectations. The cash flow would enable the company to continue to reduce debt while pursuing profitable bolt-on acquisitions.

That concludes our formal remarks, and I now would like to open the floor to your questions.

Today’s question-and-answer session will be conducted electronically. If you’d like to ask a question, you may do so by pressing the star key, followed by the digit one on your touchtone telephone. Once again, that is star one for a question. We’ll first go to [Joel Tess] with Lehman Brothers.

Joel, before you begin, everyone, if you could – as normal, if you could limit yourself to one question and a follow-up, we’ll try to get through everybody’s first questions and finish them up.

Okay, well, I’ll just try to combine my two questions into one. One is can you talk about why the cost of goods sold in the SG&A continues to increase. And just a bigger question – you know, how come all this aggressive restructuring isn’t really starting to show up? I would think by now we would start to see some of that. Thank you.

Joel, the thing that – the combination really on –let’s talk about the cost of goods side. We continue to see in some of our business obviously some unit erosion, and we’re looking continuously to -- struggling to deal with the fixed cost components that we have therein.

We have on a year-to-date basis when we actually look at our purchased product, we realize about $50 million savings, but we’ve also had some inflation creep in other areas that wound up going back. When it gets to the overall issue of the SG&A, when I look at our numbers, I can tell you that our restructuring benefit so far, like last quarter, we’re about $9 million, but what we do is we take that and then add back in the acquisitions of NRS, which is three million. We have [Granko], Nadella, Kryptonite, so that’s about 10.4 million. We made last quarter $13.8 million of investments in co-selling administrative expenses. This has to do with I-R International, which we’re putting into place over our retail solutions, our energy systems. We wound up having to buy up three distributors going out of – going to bankruptcy. And so when I added all these up, I would tell you that I can go to $35.3 million of what I would call proactive activities. A lot of the things you’re also seeing on our side happens to be significant price pressures as it relates to the more traditional I-R construction-related equipment. We can dollarize between 4 to 5 percent price reductions. When you’re starting off with 10 to 12, obviously, you can see the impact it has on profitability. This is an area that we will continue to focus on. We actually can demonstrate 15 million – excuse me, 50 cents of improvement in this, but there’s a lot of other noise in the system that makes it hard to find.

[JOEL TESS]: Okay. Any chance that we’re going to see a little bit more progress, you know, even including all the noise and everything in the second half?

Yes, you will. And I’m saying if you look at the bridging that I would be able to do for you, it would show that as we now are getting into the third and the fourth quarters, you will see this pick up, and that’s why I am confident with the level that we are displaying for the full year on numbers going into the $3.00 range.

[JOEL TESS]: Okay, thank you.

Our next question will come from Gary McManus with J.P. Morgan.

[GARY MCMANUS]: I’m just curious on – you know, you say that things turn, you know, weaker, but it sounds like quite a bit weaker in June versus the prior two months. Could you quantify that and how is – in what areas or was it broadbased and is this kind of weakness continuing in July?

The weakness that we saw hitting in June in some cases was a one-month aberration. I would give you specifically – we saw our bookings levels in security and safety, which you saw year to date was actually up significantly. I had a significant erosion in June. I can say that the first two weeks in July were right back up again to where June is an anomaly. I don’t know if everybody went to vacation early or whatever, but that was a down- and now back-up-again-type level. The one that worries me in the June numbers has to do more with our infrastructure-related businesses. Where we saw the real cave, and I’m talking about numbers that were off 24 percent in specialty, 16 percent in road, 12 percent in portable power – those kind of numbers that we saw were in the June month alone, and we were up before that. And that’s the one that worries me about the third and fourth. In addition to that, I’d tell you that in the case business, not in the service business, but the case business of Hussmann North America alone, we saw over a 30-percent decrease in June. That’s kind of the basis of where they were, Gary.

[GARY MCMANUS]: Okay, thanks. It’s helpful. Kind of an unrelated follow-up, on the goodwill hit, you said that it’s all in Thermo King, right?

Yes.

[GARY MCMANUS]: And it was – you were lowering your expectations on international growth. Could you, you know, share with us what were your original expectations for international growth before when you bought it and what is it now?

When I dig out the board presentation of 1997, it showed in terms [indiscernible] we were going to be running on an ongoing basis a minimum of 5 to 7 percent during good times, bad times and plus 10 percent [cagger] on a regular basis over the long term. And obviously if you look at the reduction then, most of that by the by was going to be coming in the “Central Europe and the China marketplaces.” That’s going to be up 20 to 30 percent. And if you now look at where we had the reduction in 2001, continue to see the reduction in 2002, that has now so far lowered us from that continuous slope of over 7 percent that what we have is just a bandwidth which is very, very broad. I am still confident that from where we sit we could grow from this level up, again in the 5 to 7 percent. But if you look at the gap we’re trying to make up for what was originally forecasted for 2002 versus now, it’s almost a company half the size.

[GARY MCMANUS]: Okay. Thank you very much.

Our next question will come from [David Rosso] with Salomon Smith Barney.

[DAVID ROSSO]: Again, two questions, trying to combine to one here. But for the fourth quarter number, obviously the pressure of $1.10 to get to $3.00 if you do 60-1/3 is, if my memory’s correct, it’s the highest fourth quarter you’ll have ever done.

Yeah.

[DAVID ROSSO]: What is the assumption there on the anti-dumping benefit? There were two – there were two in the fourth quarter of 25. In the fourth – last year’s fourth quarter. What would the fourth quarter benefit be? Would it be of similar size, 125, 225? What was the comparison?

Well, that’s what I said. If I go back to last year, last year’s number in the proceeds that we received, we received at that point in time actually $67 million, of which we booked a 20-percent reserve, and so we actually have put through about $50 million. This year – although I would tell you if you go back and look at the Federal Register, we’d say my number’s conservative – we assumed in getting to the number that you’re describing, we assumed that the level would be the same. The Federal Register, which came out about a week somewhat ago even shows a higher number than that, which would make you feel more comfortable that the number we have in is not, you know – that we can achieve it; let’s leave it that way. And so the numbers that we baked into here was the same level that we had last year of about 50 million on the OI side.

[DAVID ROSSO]: And that is pretax?

That’s correct.

[DAVID ROSSO]: And the tax rate on that, is it the 20 percent, or is it more of a U.S.--?

We put it in the U.S. tax rate, but by the time you really get through it all, it’s still going to be about 20 percent is what we’re saying. So figure on 40 million dropping through the bottom. And I’d say, obviously if you read through the Register, you’d find that they said we’re going to be getting closer to 80 this year, so that’s just up side beyond that.

[DAVID ROSSO]: So it’s 23 by that – so you’re saying kind of more core of an 87-type number? I mean it’s like 23 cents or so benefit from that?

Yeah, that – you’re getting – I’d say that number’s fine. The pieces I would steer you, David, [indiscernible] is if I look at our business at Dresser-Rand, we wind up looking at them as being somewhere in the $30-plus million operating income range in the fourth quarter. That’s a typical quarter for them. We see that all showing up in there. In addition to that, obviously, you do have the Hussmann. Even at the reduced levels, you see that – those climbing back up. So when we bridge that all the way on through, we get to the level that you came up with.

[DAVID ROSSO]: And on the tax benefits from Bermuda, you know, it’s been stated in your Qs and so forth about some of the bills that have been introduced in Congress and which could substantially reduce or eliminate the tax benefits. What is the update from your perspective on some of the noise out of Washington?

Boy, this is one that has only down side to answer it. But right now what we see is – we continue, as you see in our forecast, to put in the 20 percent as the effective tax rate we forecast for this year. The kind of legislation that’s being proposed, there is a proposal on that would potentially reduce the amount of intercompany you can have for the U.S. subs, but, candidly, that would apply to every other company whether it’s a Siemens or whether it’s a Daimler-Chrysler or so on. So I think that there’s going to be a lot of rhetoric and a lot of discussion taking place there. That’s the only one so far that we see that potentially would impact, and the impact of that in the near term, frankly, would not be that significant to us.

There’s obviously a lot of discussion around Congress, and there’s speculation on what it may or may not be. There’s nothing at this point that would dissuade us from maintaining our 20-percent tax rate for full year.

[DAVID ROSSO]: But how would it not be significant?

The only piece that’s under discussion right now, David, has to do with the intercompany level. And depending on what new ceiling that they would put in for that could have a degree. The levels that we hear being kicked around are not that significantly lower than what we put through in our “calculations.”

[DAVID ROSSO]: Okay, great. Thank you.

Yeah.

Next, we’ll go to [Steve Volkman] with Morgan Stanley.

[STEVE VOLKMAN]: I’m wondering, sort of a follow-up to an earlier question, given that we haven’t really seen, at least outwardly, the impact of the restructuring coming through too much yet, have we kind of done enough here? Do we have to kind of go back again given that things perhaps are unfolding from the economic standpoint a little bit more slowly than we had hoped?

One element, Steve, is that we are actually seeing the benefits of the restructuring. The problem is the market condition has covered a lot of the benefits away and not allowed them to show through. Clearly, we’re still in progress, and we are still – there are still more to be realized, some more improvement to come, and I think we’ll see that over the coming quarters.

I think that the number of plant closures and so on were at the right level. I think what we continue to need to work on is the effective execution and, again, reducing the fixed costs that are therein.

[STEVE VOLKMAN]: Okay, and then so I can sneak it in, does the magnitude of this goodwill write-down – has this affected the way you look at acquisitions or some of the internal planning that you do and so forth? How should we look at that?

I think what it shows is that when we looked at the historical track record of Thermo King – and this is very dangerous ground since obviously I could very quickly be accused, “You didn’t do it, therefore it’s easy for you to say,” – but with that sort of being there, let me put it out here anyway this way. The graphs that were originally presented showed a continuing growth irregardless of the cycle that had been in there beforehand. I think that was probably overly aggressive. As we wind up looking at doing the Kryptonites or doing the ETCs and so on, I would tell you that we plug in the ups as well as the downs. There are very few businesses in the world that don’t have cycles, and I think in this particular case what it shows is that all of our acquisitions as we now present them for the board are more of a base case showing up side and showing down side risk and making the calculation based on that. And that’s all I can tell you right now.

[STEVE VOLKMAN]: And I guess that must have included Hussmann if you didn’t take a charge related to that?

That’s correct. I would tell you that we were very careful on looking through that. We wound up scrubbing it. We did base plans. We did all the stuff that you see right in here. And the numbers still turned out to be positive in the 100-plus, 200 million-plus-type range when we did that. And, also, as I said before, we assumed an 11-percent for our cost of capital. Clearly, today, that is not our cost, but, you know, for the long-range plan, we see, on average, 10 to 12 percent, so we plugged that number in, and we did it on a base case. We did not do it with incremental growth initiatives for every business that we have.

[STEVE VOLKMAN]: Okay, great. Thanks.

Sure.

Next, go to [Mark Koznarek] with Midwest Research.

[MARK KOZNAREK]: Herb, I’ve got a follow-up to this discussion about the bearings anti-dumping because I’m looking at the fourth quarter last year, that $50 million was split in two pieces --

Right.

[MARK KOZNAREK]: -- 25 for ’01 and then 25 for a catch-up. So I’m surprised that we could be at 80. And just, also, yesterday, there was a WTO preliminary ruling that is talking about abolishing this or at least presenting the income going back to the, you know, the actual manufacturers. So can you comment on those two items?

The activity level, the magnitude of the payment that we receive, is really based on actual submittals made. So what you’re saying is that this is – for a given year, that was much higher. The calculation is one that that’s just how it turned out. The question about the international assessment of this, there has been a lot of obviously discussions regarding the entire [fisk] in terms of whether it is or is not. But WTO has some issues behind it. When we did our calculations for this year, we frankly plugged it in at relatively the same level it was last year. We think ’03 is a question mark as to whether or not we’ll continue to be there, so we don’t count on it being there for the future. So based on everything we’ve seen going through, the ’02 monies are already allocated, and ’03 continues to be one, I am sure, that will be continuing dialog as we talk about an awful lot of our trade issues, whether it’s tariffs applied to steel or whether it’s anti-dumping-type payments.

[MARK KOZNAREK]: Okay. And then a follow-up on the skid-steer business. It sounds like overall that Bobcat was up slightly. But looking at the industry numbers for, you know, just unit shipments for skid-steer loaders alone, they’re down like 16 percent for the quarter. So what I’m wondering is the big difference in Ingersoll obviously is the new products. But is that channel fill only, or is there pretty good retail sales pull-through? I’m just concerned if it’s channel fill that we might see, you know, a drop-off in your reported revenue growth in the second half.

That’s a good question, Mark, and I’d have been concerned if you hadn’t asked it. Overall, Bobcat revenues on a year-over-year basis in the quarter were up well over 5 percent. And if you looked inside of that, you’d see that new product continues to be a significant contributor to that kind of growth, in addition to, frankly, market share and whatever, call it more base, skid-steer and so on type business. We continue to monitor on a day-by-day basis what we have as to retail levels of sale and what’s actually in the channel, and we continue to underline the fact that we have not filled the pipeline. What you’re seeing is the classic level of in a 50- to 60-day-type flow-through on a regular basis. There is nothing extra out there. So what you’re seeing, the revenues reflected in the second quarter, is pull-through, not pipeline fill.

[MARK KOZNAREK]: Okay, very good.

And, also, the margins, you can obviously -- and based on what I just described to you, also improved. So I think you can see from that it isn’t that the revenue growth is coming from aggressive pricing practice. It continues to actually have margin improvement as well. So I think that’s a key part as we look at this business going forward, and I think it demonstrates how the overall category of compact equipment continues to be one that can continue to be robust.

[MARK KOZNAREK]: Okay, thanks, Herb.

Next, go to [Alex Blanton] with [Ingles and Snyder]. Yes, Mr. [Blanton], your line is open.

[ALEX BLANTON]: Herb?

Yes, Alex?

[ALEX BLANTON]: Could you talk a little bit more about what you said at the end of your outlook presentation, the 25 cents of risk to the forecast?

Yeah –

[ALEX BLANTON]: That was 25 cents from the bottom end of your three to three-and-a-quarter range?

Yes, Herb. What I – what we’ve looked at, you know – we’re trying to do a bandwidth because of this uncertainty, and what I said is that if I look at now with June being as disappointing as it is, what we did is that it’s hard to speculate that we’d see any kind of improvement in the second half of the year. Therefore, we truncated off the top end and said let’s just put the bottom end of the range as being more likely than what’s there. If June were replicated throughout the rest of the second half of the year, what we’ve said is in seeing where we already are in the third quarter, the risk exposure to that type of degradation, below what we saw in overall first half, quantifies to about 25 cents.

[ALEX BLANTON]: Would that be split between the third and the fourth?

No, that would be – I would tell you is probably 90-plus percent. I don’t know if it’s 85 or 90-plus, but let’s just say the vast, vast majority of it would be in the fourth quarter. We’ve got a pretty good handle on the third quarter, and then, frankly, what I thought as to risk and so on, I already incorporated, Alex, in what I gave you on that bandwidth, 55 to 60 cents. That’s why that is where it is. And so the risk of that quarter would mostly show up, I’d say, in the fourth, and, obviously, we’ll see how July and August come in.

[ALEX BLANTON]: So that would be a real range then of down to 275?

Well, I would tell you that today – no, let me [indiscernible]. The reason I’m putting this out there is I also listen to some of our “peer group” in the construction side and who are sort of in their version describing overall downturns that are much more significant than what I just described to you. So what I’m trying to do is tell you that we are not seeing the same level of fall-off as others in the large construction equipment. If you go and compare the number I gave you compared to what Caterpillar described as down side, I’m just trying to give you that the order of magnitude that I see for our overall risk is more in the 10-percent category than it is 25 or 30 or so on. That’s what I’m trying to give you is overall numbers.

[ALEX BLANTON]: Okay. One other thing if I might.

Sure.

[ALEX BLANTON]: On the matter of stock options –

Yes.

[ALEX BLANTON]: First, personally, do you feel that – this is a non-cash expense, but do you feel that it is one that somehow should be calculated and subtracted from corporate earnings? And, secondly, if that were the case, what would be the impact on Ingersoll? I haven’t looked at the 10-K. I would guess it’s in there. And, thirdly, are you intending to voluntarily adopt this accounting as some have done?

Well, I think I would give you things that, first of all, if I look at the total number of options that we exercised each year, it runs somewhere in the order of about 1.5 million shares. And then you get into an awful lot of questions about what – if you were to take what’s in my mind as a balance sheet item, because that’s what the EPS is going to be all about, if I look at that and we wind up doing black [shoals], I get number eight. If I wind up going and saying it’s at the price at which it was optioned, I’d get a total different number. I think that there is an awful lot of debate that’s going to take place as to what’s really an income hit versus what is a calculation of, you know, future cash payments the company’s going to make because of dilution of earnings.

So my take on this thing is right now we will obviously do what’s there. I don’t see – let me say it this way. I get more worried about going and making income state adjustments to reflect mark to markets every year based on, “Earnings are up, stock prices are up; therefore, I take a hit on the earnings side. Stock price goes down; therefore, I get an improvement in earnings.” Those kind of things worry me that they would just cloud up operating income stuff. And if we can get that resolved, I’m all in favor of putting it in there, but I don’t think clouding up what’s already a hard number to play clear on is really going to help a heck of a lot. We will continue to put into all of our issues as to what we have at cost, and I think as you see in a previous document – you have it there, Tim.

Yeah, I’d just like to say, Alex, the impact that we’ve disclosed in the footnotes to our 10-K or proxy would suggest that there’s about a $30 million impact last year had we reflected the costs associated with the totality of our stock options outstanding. However, also, as Herb mentioned, it is a balance sheet issue with diluted earnings per share fully reflect the impact on earnings per share of those stock options. So we believe that we have fully disclosed the impact and, really, as Herb mentioned, bringing in additional volatility, which is inversely proportionate to our directional with our stock price just as an unnecessary complication.

But the specific number you were asking for, Alex, I think is that in our 10-K we say that in 2001 there was 30.5 million; in 2000, it was 16.7; and it was 8.5 million in ’99. But that just gives you the magnitude of – now, that’s using the black [shoals] formulation.

[ALEX BLANTON]: Sure. Okay. Thank you.

Yup.

Our next question comes from [David Hustein] with UBS Warburg.

[DAVID HUSTEIN]: Can you walk through the core revenue growth rates for each of your major businesses?

Yeah, let’s see if we can sort of go through that kind of stuff for you.

When we look at the Climate Control first half, we said is that it was up overall about 1 percent, and that was made up with a growth at Hussmann and a matching reduction really at Thermo King. And it was strange because Europe was exceptionally strong and U.S. has continued to be weak, specifically in the sector that had to do with container business.

When we get into the Industrial Solutions side, just at that overall, we showed turn; it was up about eight. And if you looked inside of that, the real drivers for the growth there because of the automotive and because of the general industrial for the Engineered Solutions, that was up – offset by the Productivity Solutions piece that we had. So that’s where those – plus and minuses in there.

When you get into the Infrastructure piece, let’s say we talked about the Bobcat being up on a year-to-date basis, Club Car basically flat. The ones where we’re really seeing the problem is in Portable Power and in Road Development, where we’re talking about 10-percent-type reductions year over year. Specialty Equipment is up slightly.

And if you get Security and Safety, we see increases there in the commercial side as well as on the residential side, both domestically and internationally, so that you get a number of about 4 percent. So you can say is it’s really interesting how we have, even within our business sectors, plusses and minuses that are pretty big groupings.

[DAVID HUSTEIN]: Okay, yeah, what I’m really trying to back into is the amount of revenues provided by acquisitions.

Well, as I said, if you look through it, total operations were up about 3 percent, including the Dresser-Rand piece. So you’ve got 2 percent for the acquisition side.

[DAVID HUSTEIN]: Um-hmm.

That’s what we said up front. We’re at – really, if I look through it, the way I look at it, Dave, is that we report overall five. That includes two of like what I call the bolt-on stuff, the sub period pieces that are in there. It’s got three, and of the three, most of that really is in the Dresser-Rand and a little drip beyond that part. And if you will, the rest of the businesses all combined, turn out to be almost basically flat.

[DAVID HUSTEIN]: All right. I’ll try it offline. Thanks so much.

Okay.

Next question comes from [Ann Dougman], Sanford Bernstein.

[ANN DOUGMAN]: My question is around the microturbine business. You shipped 15 units this quarter --

Yes.

[ANN DOUGMAN]: -- and I believe about 17 units in Q1.

Right.

[ANN DOUGMAN]: Now, your original goal coming into the year was to ship about 450 to 500 units. I guess my question is, you know, how much is this business costing the operations working at such an inefficient level? And when do you think this business can break even?

We – the initial going in, [Ann], your number’s absolutely correct. When we talked about it at the beginning of the year, we talked about we had a target level of about 400 to 450. At the end of the first quarter, I said is that, based on what we’re seeing in demand levels, we could cut that in half and said we’re going to be running closer to like 200-some-odd [piece].

Relative to the costs, we’re talking about a cost of this item overall when you look at the energy investments and so on that, this is an item which is going to cost us full year somewhere around $30 million by the time we get all done. The breakeven point for this unit remains somewhere up around the 400, 450 unit level based on what we’re seeing out there right now. And so this – you know, again, if we’re able to get the 250 successfully introduced because of the market, it turns out to be a positive generator breaking through the breakeven point during 2003.

[ANN DOUGMAN]: Okay. And some of the reports that I’ve been reading show that that market size by 2005 for microturbines should be about 175 million. What do you think your share of that market could be by then?

I guess I would start off, Ann, by saying that we really have a different number in mind for that market. That may be what I would refer to as more the traditional stuff that goes in worried about what the [spark] spread is. That number we – I tried to – where we see the real significant up side is getting into this wastewater treatment-type applications, where what you’re talking about really is taking an effluent and turning it into a “power supply.”

And on our numbers there, if I give you this, for instance, in the U.S., you’re talking about 50-some-odd thousand sites in, I don’t know, we’re saying maybe 10 percent or something that’s attractive in the first part. They all use three to four of those. So if you do that math, I think you quickly find it turns out to be, frankly, a couple-billion-dollar business. And so in our numbers looking at that, it still turns out to be a 250-, 300-million-dollar-type target. We target in the 2005 sub-range, worst case, and I have not yet gotten to Europe because we still do not have a 50-cycle version of this thing. So our numbers are more than what you had there. If I take the 150-some-odd million, I would tell you we’re probably going to go have half of that, maybe even more.

[ANN DOUGMAN]: Okay. And just to follow-up on the SG&A question, shouldn’t we expect that your SG&A would be permanently higher now that you’re turning yourselves more into a service organization and moving away from products?

Well, I guess I would – I’d say that directionally, you’re absolutely correct, that when I look at the SG&A associated with the service business, obviously, it’s higher because the revenue impact per person per employee is more in the 100 to 200,000 range versus if you get into a manufacturing, it’s hundreds of thousands. So that means that service, obviously, is higher than the manufactured base. So, clearly, what we have not yet gotten to is really going and scrubbing out some of the efficiencies that we see and being able to go into service across the multiple business. We have not yet had NRS really going and taking care of both Climate Control in addition to some of the Security and Safety or the ARO solution pieces. So I think you’re going to see the improvement from us is productivity in going from where we average right now, less than 100,000 per employee in service, getting up to 200,000, and that’s going to have a positive impact on SG&A in addition to continuing to work on it in the manufacturing sectors.

[ANN DOUGMAN]: Okay, thanks.

Next, go to [John Hench] with Merrill Lynch.

[JOHN HENCH]: I have a question on Dresser-Rand. It looks like cap ex and some of the E&P side of the petroleum industry is slowing. Is there a risk, do you think, based on that trend? And if you could maybe characterize where Dresser is in the cycle, meaning if conditions stay constant today, what kind of top-line growth and ultimately margins does this business potentially generate?

John, the business really has two pieces to it. Number one, where we’re going in and quoting turnkey or large engineered projects. And the second then, we’re doing a lot of revamp-type work. The revamp-type work, which is really increasing the productivity in terms of barrels per day and the output that they would be looking at is at this point in time running at 50 percent of the total new units going through. So I see that shift going forward continuing to be more of very, very attractive short payback periods driving more of this revamp work, and that’s where we’re really going to be focusing. And when we look through this entire growth, okay, I think this is a double-digit growth that you see in our planning cycle. When we look at the kind of projects we’ve identified that are out there, we see the runway in front of us and the three, five range – three- to five-years range.

The risk, therefore, for us in the near term, obviously the only good thing about a backlog business like this is that I’m pretty comfortable. I’ve got already in-house everything I need to ship basically for the rest of the year. So if there were risk, I think we would only start experiencing some of that probably in the second half of next year. But for what our activity level looks like so far, the real growth we’re seeing is our ability to continue to demonstrate real short-term paybacks under revamps that are able to pump out more from existing operations. That continues to be the strength.

[JOHN HENCH]: So, Herb, we should be extrapolating the strength of Dresser today throughout the rest of the year and into next year?

Yes, sir. That’s correct. And I think the other piece behind it, if you look, the operating results are actually – again, this is always the excuse side of it, it sounds like – there is [indiscernible] I think we did it in even our earnings release, we talked about $5 million hit about past projects that came when it was a Halliburton company. This really is now running at a business that I would tell you has near-term prospects of being 10 percent. The math is somewhat confused by the level of buyouts. As we present to our customers the engineered solutions, included in that – some of that is material that we wind up buying off of them. So that’s why you’re going to start hearing from me more and more how we pulled that apart so you can really see what’s the Dresser-Rand manufacturing content versus where we’re basically just putting on the hubcaps, you know, for somebody else.

[JOHN HENCH]: And, Herb, was that five million truly one time? Or are there other sorts of pending lawsuits that could cause additional --?

No, no, that is a one-time, John. That was a project that’s been kicking around for years, and so if I look at what else is out in the pipeline, I do not see those.

[JOHN HENCH]: Thank you.

Sure.

Next, go to [Barry Bannister] of Legg Mason.

[BARRY BANNISTER]: Question – is there a lag issue whereby the end of the Class A pre-buy billed in the third quarter may not hit the [refr] build at Thermo King in the fourth quarter the way it might, for example, hit the engine makers?

Wow, let me put that all back together again. I guess the way I would answer that, Barry, is that when we looked at our numbers for the [refr] business, what we see is utilization. I talked with – I can’t put the names on. It would cause them trouble because they’re public companies – but I talked to some of our larger customer groups, and what they’re doing at this point in time is mothballing the [refrs]. And so the [refrs] that they’re mothballing are the ones that are going to be coming out, so that’s going to become – it’s a hill that we have to climb over. Just like [the planes] in a desert, well, I don’t know where they parked the [refrs], but they’re out there because they are now trying to get high utilization per.

So in our math going forward, we are not counting on any kind of robust comeback in the second half of the year. We’re looking at year to date on the [refr]-type business – just so it would give you an idea – North American trailer side, we are compared to last year running just off like 1, 1.5 percent from where we were. And for full year, we’re forecasting to be off like 1.3. So in the numbers that I’m laying out, I don’t see that increase. I wish there were one, but I just don’t see how to forecast that because of the used market that’s out, there’s a price point they’re at, and the ongoing drive from our customer group, the guys running these rigs, to get higher utilization, they’re saying the LTL level is too low. They’d like to go around 30,000 pounds rather than 20. So we’re off year to date 1.7; we’re looking full year to be off 1.3. So I don’t see that kind of recovery in our numbers.

[BARRY BANNISTER]: Okay. And related question to Hussmann versus Thermo King. You know, your predecessor, [Jim Perella] paid 12.5 times EBITDA for Thermo King. You paid nearly 11 times EBITDA for Hussmann. You took a charge on his acquisition, but you didn’t take a charge on yours, and neither one has lived up to expectations. I mean when I get a question of whether this was kind of self-serving, how am I supposed to answer it?

Mathematically. Remember, I said to you going into this, I understand the optics therein, and, clearly, you know, there’s always the issue of when you’re 54 and you’re not yet ready to retire you have to worry, hopefully, about tomorrow and about maybe many tomorrows thereafter. And so we went through this, and what we did in our calculations – the biggest difference I would tell you between the two is the fact that the recurring revenue stream, the service business, the installation business, the parts business that goes on, which, to me, was the attractive part behind here, that is the one that winds up making this math, I think, more likely to happen. The risk, clearly, as is the case in Thermo King, is more in the “fixed item.” In Thermo King, it’s the trailers, and in Hussmann, it’s the display case. So you are absolutely right. If we did not have service installation capabilities, and, frankly, the ability to leverage the rest of the enterprise throughout this piece, we probably also would have the same issue on the impairment side. But since I’m able to go and to put into this I-R “Climate Control” store of the future a lot more value, I think that’s what’s going to make this different two, three years from now. Whoever’s sitting here at that point in time will wind up being able to report it as positive. Why is it negative? I did not when we purchased the thing – and the numbers that we had there forecast this downturn. Very clearly, that was not in the numbers either. But when we made the acquisition, we assumed the fact that it was going to be more flat than what we did in the Thermo King math, and, candidly, the parts business, which now represents 30 percent to parts service, 30 percent of this stream. We don’t have that when it gets to Thermo King. So my answer to you in terms of it is I don’t think it’s self-serving. I think it’s a fundamental difference in the type of market that we’re serving and the ability to do the aftermarket in one versus the inability to do that in the other.

[BARRY BANNISTER]: So basically it’s kind of too soon to tell?

No, that’s not what I said.

[BARRY BANNISTER]: I understand.

It was just a [haircut]. Well, I’m saying, you know, every day has one – you know, it’s easier tomorrow probably to look at today and see what the market did, too, but I’m just saying to you that we were very, very mindful of what would be the consequence of at this point in time not taking a charge if it was appropriate to do so and having to do so at a later time. Later time, it shows up hitting the income statement. That would be a way to be the former CEO of this company. I don’t think shareholders would be too appreciative, and they would be right. We went through the exercise of evaluating for – looking for impairment, and we took a hard look at all of our business and evaluated them all on a consistent and fair basis, and the charges that you see reported in the second quarter is what we arrived at as the – what needed to be impaired.

[BARRY BANNISTER]: Okay, I’ve taken enough time. Thanks. Bye.

And we’ll next go to [Joanna Shatney] with Goldman Sachs.

[JOANNA SHATNEY]: Can you just talk a little bit about what the growth rate year over year expectation is in the $3.00 number for revenues? And then if we go for the 25-percent down-side risk, what’s the revenue year over year based on that in the second half?

When we looked at the full year, we look at the second half. To get the $3.00-type number, we would have revenue that would be comparable to where we are right now.

[JOANNA SHATNEY]: Right, so flat.

Yeah, flat. Right.

[JOANNA SHATNEY]: And then to the 25 cents?

Down 2 percent second half.

[JOANNA SHATNEY]: Just two, okay.

[Indiscernible] year.

[JOANNA SHATNEY]: Okay. And that’s – and it gets to the 25 percent – 25 cents to the mix?

Yeah, right.

[JOANNA SHATNEY]: Okay.

Because the way we’re obviously going to say it is that the assumption would be more in road development and stuff of that nature, which is high in the manufacturing content.

[JOANNA SHATNEY]: Okay. And, Herb, just to go back to the Hussmann write-down, can you just talk about what the unit expectation is on – unit growth expectation is for the Hussmann business and what you expect the long-term growth rate for revenues to be?

When we did the Hussmann plan numbers, we talked about the revenue growth, which is in the 5- to 7-percent range. That was what we had and that’s what we continue to show as being in the overall long-term plan. And when we did the calculation, long term way beyond that, we said is that we actually did the math of knocking it all the way down to GDP basically in the 3-percent-type range.

We actually developed specific growth rate for the next three or four years when we evaluated our long-term plans. But then we used essentially a terminal value growth rate of 3 percent.

[JOANNA SHATNEY]: Okay, and I guess another way to ask this, out five years or so, how much is the service side of the business going to be as a percent of sales?

It should be almost 40 percent of the revenue stream.

[JOANNA SHATNEY]: Okay. Great. Thanks.

Sure.

Our next question will come from [Robert McCarthy] with Robert W. Baird.

[ROBERT MCCARTHY]: I’m a little confused, Tim, by your comments on the margin decline and infrastructure. With Bobcat holding up very well in the quarter, you know, the decline was blamed on mix, in essence. You know, what am I missing here? I mean Bobcat I understand to be a high – I mean it accounts for a big piece of the segment and it’s got higher margins than the rest of the segment, so can you help me with my confusion here?

Well, I mean Bobcat revenues were up, and it is a richer-mix part of that sector. And the road part of it was weak, and that’s the lower-margin business.

[ROBERT MCCARTHY]: The – let me –

If you looked at – the biggest problem that we had in the margin number for the second quarter when it got to infrastructure is that we had about a 4- to 5-percent price erosion in what was going on in road machinery and portable air and what I would call the IR-branded infrastructure side of things. That is what really took the biggest – “made the biggest impact’ on the OI on the 2001 to 2002 adjustments.

[ROBERT MCCARTHY]: Okay. And my – maybe not real related follow-up, I’m still struggling to understand why you wouldn’t be forecasting any contribution to free cash flow from working capital in an environment where you basically have flat growth and, you know, restructuring plant closings. You’re reporting working capital relative to revenue down. What happens in the second half of the year that, you know, would keep you from being able to generate cash out of working capital?

We’ve made significant progress over the first half of the year and in the first – and in the full year, I think, this quarter as we identified a couple points of revenue down. We will continue to work, as I mentioned, on working capital management in a tougher environment as we have flat revenues and perhaps even down. We identified that to the extent that the market isn’t as favorable as that we originally anticipate we would still anticipate that we would maintain our cash flow of 500 million this year.

[ROBERT MCCARTHY]: Well, I understand all that. But just to the narrower question of why you wouldn’t generate positive cash from working capital?

All we said, I think, Robert, if you look at it is that if you assume that 2002 levels percentage-wise are the same as 2001, you would wind up getting to 500. To the degree that we’re able to continue to deliver to beat the plan that we have so far, we continue to do it on the second half of the year. Obviously, what it does is present up side to that 500 million in cash flow. You’re absolutely right.

[ROBERT MCCARTHY]: Okay, thanks.

My worry at this point in time is the down side that you heard Tim talking about as to being the risk piece, so what I’m trying to do is put a number out there that candidly winds up getting a high confidence level, and you can hit at least that level.

[ROBERT MCCARTHY]: Okay. Okay, thanks.

Next, go to [Mark Parr] with Liberty Mutual.

[MARK PARR]: Thank you, gentlemen. My questions have been answered.

Thank you, Mark.

And we’ll go to then [Michael Regan] with Credit Suisse First Boston.

[MICHAEL REGAN]: Herb, I’m still struggling a bit with understanding the sequential shortfall in earnings for the third quarter and then the rapid acceleration in the fourth. If we look back to last year, earnings third to second were down 10 cents in what was a weakening environment and then rebounded 10 cents in what was still a fairly weak environment. Your guidance is for earnings to be down to 12 cents in the third quarter, which should be in a strengthening environment. But more confusing is for roughly a 50-percent sequential improvement – 50-cent sequential improvement in the fourth quarter. And I just – I can’t seem to get there, and I’m wondering if I can get some help either by segment or just how to think about this.

Well, remember, last year -- last fourth quarter was particularly weak in last year. Remember, we do have the CDL payment expectation that will be additive to the fourth quarter, which is purely additive to the third quarter.

[MICHAEL REGAN]: But if it was additive to the fourth quarter last year, I know it’s additive more, but it was still additive last year.

That’s right. And it’s a bit more this year.

[MICHAEL REGAN]: Okay, a bit more, right.

And we will see some of our – some additional of our productivity and restructuring savings come in in the fourth quarter.

And, obviously, the improvement in Dresser year over year continues to be very, very significant in the fourth quarter. I said the magnitude of that is an additional 20-plus million year over year.

So and add up all those pieces, Michael, that’s how I wind up getting up to the $3.00 number.

[MICHAEL REGAN]: Well, where do you see the – maybe the better way to question – ask the question then is where is the incremental weakness going to be in the third quarter then?

The incremental weakness I’m worried about at this point in time has to do with infrastructure specifically related that we talked about in the IR branded-type parts and concern as it gets into the climate control piece as it relates to the display cases.

[MICHAEL REGAN]: But I mean relative to that, Herb, it’s interesting; you don’t seem concerned about the display cases for the fourth quarter, and I’m wondering why. I mean order rates, you know, have been less than robust, and backlog continues to shrink. So why is that suddenly going to have, you know, a bang-up fourth quarter?

It doesn’t have a bang-up fourth quarter. We’ve actually truncated that down as well. [They’re saying] so the year over year that we baked into the fourth quarter for Climate Control and Hussmann is not as much in 2002 as it was experienced in 2001. So that’s baked into our number to get there.

[MICHAEL REGAN]: Okay, so you have a smaller rate of gain fourth quarter over third?

Climate Control.

[MICHAEL REGAN]: Just Climate Control --?

Right.

[MICHAEL REGAN]: -- than you did ’01 over – than you did in ’01?

Yeah, right.

[MICHAEL REGAN]: Okay.

Whereas the fourth quarter of last year, Thermo King had a particularly difficult market situation and did not perform, and we do anticipate some improvement this year.

[MICHAEL REGAN]: Okay. Thank you.

And we’ll next go to [Anik Vaslakoss] with [Eden Vance]. We do have three that have signaled for follow-ups after that.

[ANIK VASLAKOSS]: A couple quick questions with regard to the cash flow. Could you guys give the cap ex, depreciation amortization and the amount of cash that was related to that 2190 restructuring?

Yeah, I think I’ve got your question. The anticipated depreciation amortization for the full year will be 265 million, and as we identified, cap ex for the year is expected to be in the 150 to 175 range.

[ANIK VASLAKOSS]: Yeah, I was specifically referring to the second quarter numbers.

On second quarter?

[ANIK VASLAKOSS]: Yeah.

Well, depreciation’s going to be a fourth of that, so we’ve got 60, 65 million. And the cap ex, I believe, was 44? Forty-four for the quarter.

[ANIK VASLAKOSS]: Okay, thanks.

And for a follow-up, we go to [David Rosso] with Salomon Smith Barney.

[DAVID ROSSO]: I’ll try to keep it quick; just cash flow. Just wanted to get a feel for how much of the receivables were sold to the special purpose sub this quarter. Just the other expense line popped up a little bit. I just – that sometimes shows some of the discount, you know, the discount flow on that sale of receivable to the special sub.

[Indiscernible] – I’m sorry, David.

[DAVID ROSSO]: What was the amount this quarter, the receivable sale to the sub, versus, you know, first quarter and also second quarter last year?

We sold no incremental receivables to the sub in the second quarter of this year.

[DAVID ROSSO]: What was the absolute amount?

That we sold?

[DAVID ROSSO]: Correct.

The total balances – the total balance in the account is 275 million.

[DAVID ROSSO]: That’s the – that’s the limit that you can hold at one time. But isn’t there just a pass-through mechanism where it’s not – you know, that’s a limit-type number. What was the flow-through?

You mean what came in and what went out?

[DAVID ROSSO]: Exactly. What came off the books we looked at that went to the special sub?

Well, I mean assuming that within the quarter and in 90 days we should’ve turned whatever we put in there, so I would expect that 275 – that is the balance at the end of the quarter. And, consequently, I would expect that 275 million was added because 275 million came off – is the pure flow-through.

[DAVID ROSSO]: Okay. Thank you.

And [John Hench], Merrill Lynch. Mr. [Hench], your line’s open.

[JOHN HENCH]: Can you aggregate what was the free cash flow in the quarter?

Cash provided by operations was $43 million, which is considerably up from what it had been the second quarter of last year.

[JOHN HENCH]: Okay. That’s the number I was missing. And then the follow-up is, is there a way to just get service as a percent of total revenues? And then where do you see service as a percent of your mix headed over the next couple years?

Trying – John, do you want to pull out parts? Is that what you’re trying to do or what?

[JOHN HENCH]: Yeah, parts and service.

I would say to you that right now – we’ve said before – is that the overall combination of this recurring revenue stream is about 20 percent of the total volume that is there. And if you go inside, each of the businesses has a different rate. I mean most of the service – I would say – I don’t know. I don’t have this number here specifically. You guys –

[JOHN HENCH]: Was it – service up double-digit, Herb?

Yeah, it is.

[JOHN HENCH]: Okay. And then that trend should continue, you think?

Yeah, because usually what I look at is you go out and you try to bill an hour’s worth of labor and then go put in a comparable amount of parts. But in Climate Control, that’s usually not what happens. So you have usually more billable hours than you have service parts that go there after. And if you go to Thermo King, on the other hand, I got to tell you is we have zero service; they have all parts business.

[JOHN HENCH]: Okay. I’m just wondering if service could provide some sort of a potential buffer to the 25 cent down side to the second half?

Yeah, I would say to you that if you – thank goodness for where it is. If you look at the numbers so far, if you look at like ARO, whole goods are off, you know, almost 10, and then the service business is up over 10. So it is that the issue we’ve gotten so far, obviously, is one end levering off of 20 percent of the total number and the other one is 80 percent. So I’ve still got a four-to-one ratio to fight there. But overall, I’m saying is that – that’s why we continue to go after these contracts, the almost 3,000-some-odd stores trying to get to 5,000 to 10,000. So you’re going exactly where we’re looking for, John, as to how to go and to eliminate the bump in the road here.

[JOHN HENCH]: Great. Thank you.

Sure.

And [Mark Koznerak] with Midwest Research.

[MARK KOZNERAK]: On the Safety and Security business, can you dissect a little bit more the growth in the commercial versus the big box side of the business? And then kind of secondarily to that, this ETC acquisition, were they already a distributor of I-R electronic products such that you won’t pick up that total 40 million?

This is a three-part [indiscernible] question now, Mark.

The first one is that both commercial and residential were up on a similar basis. We wound up last year changing the sales organization, so although the commercial market I would tell you was tougher, so we got more gain in the commercial side, and we continue to make good inroads in shelf space under retail. But there is not a discernible difference in the growth rate between the two pieces.

Second thing, on ETC as an acquisition, we had – if I rounded it generously, maybe a half a million dollars of stuff that we actually sold them. So this is all incremental. The biggest increases you’ll see is that as we replace [Kronus]-type products with Interflex-type items going forward, this should be an interesting increase in activity level for us as we get to electronic access control. They also have not heretofore been installing the hand recognition systems. They now have added the capability to do so. You’ll see some real nice improvements, I think, of I-R-branded security and safety items now going into their installations, but there is no replacement of their revenues of any magnitude.

Okay, did I get all three parts okay?

[MARK KOZNERAK]: Yup, thanks.

Good.

Operator, we’ll take two more if we have them out there.

We do have two more. [Ann Dougman], Sanford and Bernstein.

[ANN DOUGMAN]: Yeah, I just have a follow-up question on the working capital for the year. If I look back at second quarter this year versus Q2 last year, and as measured in days, days on hand, your receivables have gone from 50 days to 55 days, which would be an indication that customers are paying you slower. And your days on hand have gone from about 52 days to about 63 days. So the only thing that I’ll say to you is your payables, the time with which you pay your suppliers, including arrears, has gone from 74 to 102 days. Why wouldn’t we anticipate a negative impact on working capital for the year? Are the days payable sustainable?

[Ann], we probably need to take that one offline because the numbers you’re citing are not consistent with what we’re seeing. Our receivables actually are down three days, our inventories are down three days, and our payables are up about three days. So that’s consistent with what we’d expect there. That’s dramatically different from the numbers that you’re showing. You know, we did have a restatement at the end of last year, so you maybe have taken the actual release that came from the second quarter of last year when we pulled Dresser-Rand back in and we restated. That may be some of the confusion.

[ANN DOUGMAN]: But directionally, do you still think that through the remainder of the year you’ll pay suppliers slower than you did last year?

I’m sorry, [Ann], could you repeat that, please?

[ANN DOUGMAN]: Do you still think directionally you’ll pay suppliers slower than you did last year?

Three days.

[Ann], there is a fundamental disconnect we have in our math. Our traditional terms with our supply base is 45 days, okay? And we’re three days in and out of that on average. That math gets to be somewhat difficult into where we have been [indiscernible] our own managed inventory on site. But overall, we are not running 100 days. Our traditional terms that do vary because we take cash discounts in some cases because they come across as being mathematically attractive, 2 percent or whatever it is, but, overall, I’m telling you that if you asked our supply base that’s out there, it runs in the 45- to 60-day category, not in the 100-day category. And, therefore, it is a very sustainable amount. It’s the same way that we are stuck with being roughly in the 50 to 55 days on the receivable side. That’s really the bandwidth.

[ANN DOUGMAN]: Yeah, I understand, Herb, that you report – your report includes arrears and that’s why the number hits 100. It’s just the trend that I’m looking at and the upward slope of the trend.

No, as we said, we’ve got like three days [indiscernible] in the cash cycle that we attribute to this, and that, frankly, is noise within the given period of time when the orders are placed and received and so on.

[ANN DOUGMAN]: And are you moving more towards a pay upon consumption?

Yeah. I mean my goal there would be I’d love to go and actually I’d like to – you know, it’s like with the guys when they hang the jet engines on the wings. You know, you wind up paying them in terms of when you get the money for it. I’d love to go get closer and closer to the cash cycle being like one day. So we continue to work with our suppliers asking them, in turn, we want it to have it locally available just to make, frankly, the entire inventory process for us (a) number one, more robust, and (b) I think to get the cash out of there.

[ANN DOUGMAN]: Okay, I’ll follow up offline. Thanks.

And we’ll next go to [Alex Blanton], [Ingles and Snyder], for our last question.

[ALEX BLANTON]: Just a housekeeping question. On that 18 cents of goodwill in the quarter, could you tell me what the pretax amount of that is and where it’s located in the – is it in cost of goods sold? That’s the last year I’m talking about.

Oh, last year’s.

[ALEX BLANTON]: Yeah, Yeah, I want to make things comparable here.

The majority of it’s going to be – going to be in cost of goods sold.

[ALEX BLANTON]: And what’s the – what’s the pre-tax number?

It’s – 34 million is the pre-tax dollar amount.

[ALEX BLANTON]: Thirty-four. So most of it’s nondeductible?

Alex, you can find that on Schedule Four. There’s – the schedule’s in the back of the press release. You’ll find all that information in there.

[ALEX BLANTON]: Oh, it is in there?

Yeah, it’s in there.

[ALEX BLANTON]: Okay, thank you.

Okay, we’re going to wrap up now. Thank you very much for joining us. We’ll announce third quarter results on Thursday, October 17, 2002.

There’ll be an instant replay available of today’s conference call at approximately 3:00 PM today, and it will be available until July 25. The call-in number for the replay is as follows: 719-457-0820, and the passcode is 170754. The audio and the slides of today’s conference call will be archived on our website. And, finally, the transcript of this conference call will be available on the Ingersoll-Rand website hopefully early next week.

Please call me. Again, I’m [Joe Fimbionti], for those of you who don’t know me. And if you have any additional questions, I’m at 201-573-3113. That’ll conclude the call. Thank you again. Goodbye.