特靈科技 (TT) 2009 Q4 法說會逐字稿

Good day, everyone. Welcome to the Ingersoll-Rand fourth quarter 2009 earnings conference call. Today's conference is being recorded.

At this time, I'd like to turn the conference over to Mr. Bruce Fisher, Vice President, Investor Relations. Please go ahead, sir.

Thanks, Danielle. Let me add my good morning to everyone as well.

We released earnings this morning at 7:00 AM. Our website was down temporarily because of the storm in Dallas; however, it's now back up and running and you can find our earnings and the slides that go along with our conference call posted there. Just go to www.ingersollrand.com and click on the yellow icon on the home page. You will see all of the materials there. They will be archived on the website and available tomorrow morning at 10:00 AM including a transcript of this call.

If you would please go to slide number two. Statements made in today's call that are not historical facts are considered forward-looking statements and are made pursuant to the Safe Harbor provisions of the federal securities law. Actual results may differ. Please see our SEC filings for a description of some of the factors that may cause actual results to vary materially from anticipated results. In addition, if you would, please refer to slide 25, which covers the use of non-GAAP measures to describe Company performance.

Now if I could, I'd like to introduce the participants on this morning's call. We have Herb Henkel, our Chairman, Mike Lamach, our newly appointed CEO, Steven Shawley, our Senior VP and Chief Financial Officer, and Joe Fimbianti, our Director of Investor Relations. Herb will open with a few remarks, then Mike and Steve will review our business results and our outlook for 2010, and then we'll open the lines for your questions. If you would, please go to slide number three, and I'll turn it over to Herb.

Thanks, Bruce. Good morning, everyone. Thanks to all of you for dialing into today's call.

For the last ten years I've had the opportunity and privilege to report to you on our progress in transitioning Ingersoll-Rand from a deep cyclical machinery company to a global diversified industrial company. I think we've made significant progress. We now have great businesses with great people, and we have a very strong leadership team. I'm very confident about our Company's future.

And now I'd like to turn it over to our CEO, Mike Lamach, who'll go over the rest of the call with you. Mike?

Thanks, Herb.

I'll start by saying you set a very high bar as CEO and on behalf of all Ingersoll-Rand employees around the world, we want to Thank you for your leadership over these past ten years. You've transformed the Company into what it is today and have built a strong foundation for us all to build on. Personally, I'm very honored to have the opportunity to lead the Company going forward and I'm truly excited about our collective future. I'll turn now to today's call.

I'll start by giving you perspective on our 2009 full-year performance. Last year at this time, I know many of you remembered that we expected turbulent markets for 2009 and forecasted full year revenue declines in the upper single digit range. As it turned out, the markets were far more difficult than expected and our full-year revenues were down about 19% or $3.2 billion from pro forma 2008 results. We offset the sharp market contractual largely by over-delivering on productivity and cash flow and full-year earnings per share, excluding restructuring costs, were $1.65 per share. Total productivity increased by 5.3% for the full year and averaged about 5.6% for the second half delivering $681 million of savings for the year.

We raised our Trane acquisition cumulative synergy benefits projection from $300 million to $500 million for 2010 and completed the first phase of an ambitious restructuring program, which will reduce our manufacturing footprint, improve our cost base, and greatly improve our capacity utilization and operating margins. We reorganized our climate and residential businesses which delivers immediate cost savings and makes it easier for to us leverage our capabilities and markets to deliver more value to our customers. We also significantly exceeded our original full-year cash flow target of $920 million by over $670 million. We delivered this performance despite the much lower than expected operating earnings through effective cost control and strong working capital management. This strong cash flow helped to greatly improve our balance sheet. We reduced total financing by $1.1 billion and better commitment to reduce the Trane acquisition debt by $2 billion by the end of 2009, despite coming up short on our original projections for EBITDA.

Additionally, we continue to focus to fund product development and introduce many significant new products during the year. Overall, I'm confident we're building a stronger culture of innovation and continuous improvement and we're demonstrating we could execute well regardless of market conditions. Full credit goes to the many dedicated Ingersoll-Rand employees around the world that made our cash productivity and share gain initiatives a great success in 2009, while always ensuring that we continue to deliver outstanding value to our customers. We know that there will be bumps in the road in 2010 in some of our key markets, and we're well-positioned to the generate continued productivity and growth as our markets begin to stabilize and then recover.

Now let's talk about the quarter, and please go to slide four. In the fourth quarter, we continued to drive our cash productivity and innovation performance, achieving better than expected results in all three areas. While some market challenges continue, we did start to see year-over-year improvements in what looks to be bottoming in others. For the quarter, revenues were $3.3 billion, down 10% versus prior year and down 13% excluding currency. Fourth quarter revenues were at the mid-point for October guidance which anticipated the revenue range of $3.2 billion to $3.4 billion. Fourth quarter reported earnings from continuing operations were $0.37 per share and $0.48 per share, excluding $50 million of restructuring. There's some puts and takes that I'll review on a later slide, which included a negative $0.04 associated with discrete items.

All of our segments except security technologies improved operating margins compared with the fourth quarter of 2008 and total segment margins were up 1.4 points. The decline in security margins was essentially due to an increase in restructuring expenses year-over-year and in geographic mix. We delivered 5.9% gross productivity exceeding our 5% goal through a combination of tight cost controls, restructuring savings, Trane synergies, and operational improvements. We also held our gain share in most of or businesses and continued to develop and introduce new products which will help revenue growth in 2010. We generated $412 million of available cash flow in the quarter at $1.6 billion for the year.

Please now go to slide five. Before we talk about our business today, I wanted to remind everyone that we realigned our business reporting structure in the fourth quarter. This was a major action to complete integration of the Trane businesses, which in the near term will give us improved channel access, help us better leverage our capabilities and markets, and reduce costs by about $90 million.

Please go to slide six. This is a new slide that shows the year-over-year changes in our monthly order rates. As you can see, order rates started to turn down in the back half of 2008 and plunged downward by 20% to 30% in the first half of 2009. We started to see some moderation beginning in September. November and December were the first year-over-year positive readings we've seen since August 2008, some 18 months ago. Overall, fourth quarter orders were flat although still slightly negative, excluding foreign exchange. We see improvements in all segments except security, which continues to be more negatively impacted by the client commercial construction. Excluding foreign exchange, the positive trend we began to see in December has continued into January.

Let's go to slide seven. This slide gives a summary of revenue and operating margins for the quarter. Our fourth quarter 2009 operating margin was 6.7% on a reported basis and was 8.2%, excluding restructuring costs. On an apples to apples basis, adjusted operating margin improved by 140 basis points despite a $360 million drop in revenues, highlighting the success of our productivity actions. I'll come back to the topic of margins and operating leverage in greater detail on a later slide.

Let's go to slide number eight. This slide provides a look at the trends in our revenues by segment. We think revenues, excluding currency shown on the bottom of the chart, give a better view of our organic sales performance, and our talents will focus on this measure. As you can see on this chart, it appears we hit bottom in mid-2009 with modest improvement in the rate of decline the third and fourth quarters. Our residential business, which now includes both HVAC and security, saw positive growth in both of those components in the fourth quarter. On a geographic basis, revenue's flying 14% for the US and about 11% in the international markets excluding the impact of currency. Equipment revenues declined by about 12% on a comparable basis for last year. Worldwide recurring revenues held up better and were off about 4%. Our sales, like many diversified industrial companies, declined in the fourth quarter at a decelerated pace. We're seeing some real signs of positive growth.

Let's go to slide number nine. This bridge shows how our fourth quarter operating margin improved year-over-year. Fourth quarter segment operating margins were 6.7%, up about 1.8 percentage points compared with pro forma adjusted 2008 as our productivity programs and lower material costs more than offset lower volume. By reducing our fixed and variable cost structure, focus on our productivity, we're positioning ourselves for continued margin improvements when our markets do begin to recover.

Please go now to slide number 10. Slide 10 bridges the components of our EPS compared with our previous guidance range from October. At that time, we indicated that we expected to be in the range of $0.44 to $0.54 per share of continuing operations before restructuring. Our revenue came in essentially on guidance, but unfavorable product and regional mix per earnings $0.05 versus guidance. We achieved higher productivity which contributed an additional $0.03. With a shift toward more earnings and low tax-cost countries outside the US, we reduced our tax rate, improving our earnings $0.05 versus guidance. In total, these items contributed about $0.03 above our guidance mid-point. We also had some discrete items in the quarter, which are shown on the slide. We negotiated a favorable (indiscernible) settlement in the quarter, which added $0.05 to our results; and we also recognize the impact of a January 2010 re-evaluation of the Venezuelan (inaudible). That cost us $0.05. And we booked the discrete tax line up to the negative $0.04. Bottom line, we delivered $0.37 of EPS from continuing ops and $0.48, excluding restructuring. As you can see on the slide, discrete items were a drag on earnings and worth a negative $0.04 in aggregate.

Steve now will take you through a review of each of our reporting segments.

Thanks, Mike. Please go to slide 11. This slide lists the highlights of the new client solutions segment and represents the Trane commercial HVAC business in the Thermo King and Hussman Refrigeration businesses. Total revenues were at $1.8 billion and declined by 16%, excluding currency.

I'll talk first about the global commercial HVAC markets in our Trane business performance. Global nonresidential HVAC equipment markets declined in the range 15% to 20% in the fourth quarter, with significant reductions in the Americas, Europe, and Middle East. Asian markets were up high single digits reflecting good growth in China. Our results were a bit better than that because of growth in our parts, service and contracting businesses.

I'll take you through our orders, revenues and backlog. In the fourth quarter, our global commercial HVAC orders continue to decline in equipment. However, we saw increases in contracting and service. I'll review commercial equipment orders first. In the Americas, our largest market, commercial equipment orders declined roughly 20%, ex-FX. Europe was also negative. We did see positive order growth in Asia, which was up high single digits. In December, and so far in 2010, we are seeing some positives. In North America, for example, total commercial equipment orders were flat in December and up 4% in January. We've seen particular strength in recent (indiscernible) orders, which were up 16% in December and up 18% in January, and in unitary, the rate of decline is slowing. December orders were down 20% and January orders were down nine. It's perhaps too soon to say the market is turning but order performance has improved.

Let me switch to contracting and service orders, which was a good news story in the fourth quarter. Orders for contracting and service in North America, and this is our largest service market by far, were up strongly, almost 30% in the quarter. This performance gives us a great starting position heading into 2010. Switching to revenues, our global HVAC fourth quarter revenues were $1.2 billion, down 10% versus prior year on a reported basis and down 12% excluding the effects of foreign exchange. Total global commercial equipment revenues were in line with global markets, down 19% excluding FX. America's equipment sales were down about 20%. Europe and the Middle East were down mid-20s and Asia was up mid-single digits, all excluding FX.

Global parts services and solutions revenues increased by 2% in the quarter, excluding FX. We are benefiting from an uptick in energy efficiency projects and we continue to upgrade our capabilities to sell directly to owners. We ended the quarter with a global backlog in equipment contracts, service and parts of approximately $1.3 billion. Global backlog was up 3% on a reported basis. Equipment backlog declined high single digits, offset by growth in contracting. Current contracting backlogs continued to build and we were up 40% over prior year in the US reflecting the strong increase we saw on orders in the quarter. Globally, contracting backlog increased by about 35%. In summary, we would say that commercial equipment revenues remain weak, although we see some improvement on the rate of decline. Service and contracting look like they are poised to recover in 2010. In addition to our productivity, new product launches and restructuring actions are producing good results and that will put us in excellent position when the markets improve.

For the global Thermo King transport business, revenues decreased by 7%, which is a significant trend improvement to the 30% year-over-year decline that we saw in the third quarter. Worldwide refrigerated truck and trailer volumes were down slightly compared with 2008, as increased sales from recovering markets in the Americas and Asia were offset by ongoing declines in Europe. Global bus HVAC shipments and marine container sales both increased substantially due to EC comps and improved end market activity. TriPac auxiliary power unit volumes declined significantly compared with last year as lower diesel prices and declining fleet revenues have continued to limit conversions in 2009. On a positive note, Thermo King orders increased significantly in the fourth quarter setting the stage for improved sales and operating earnings in 2010.

Looking at stationary refrigeration, global sales were down about 33%. This was a sharp -- this was driven by a decrease in display cases and a sharp decline in the installation business due to lower supermarket capital expenditures and furlough expected fourth quarter remodeling projects into 2010. Climate Solutions reported operating margin was 4.9% in the quarter. This compares with 3.1% in the fourth quarter of 2008. The margin improvement was driven mainly by productivity, which more than offset the volume drop. Lower restructuring expenses versus prior year was also a positive factor.

Please go to slide number 12. Industrial technologies fourth quarter revenues were $591 million, down 12% versus the prior year quarter and down 15%, excluding currency. Revenues for the air and productivity business decreased by 13% due to lower volumes in all geographic regions. Revenues were down 16%, excluding currency benefits. Air and productivity revenues in the Americas declined about 20% during the quarter, with a 23% drop in equipment volumes due to declines in major industrial process, fluid handling, and markets.

Recurring revenues were off about 14% from lower industrial production levels and deferral of maintenance by customers. Air and productivity revenues in overseas markets declined less significantly, down by 6% primarily due to declines in industrial activity, especially in Europe. Ex-foreign exchange revenues were down 13%, reported European volumes were down 7%, and about 19% in constant currency. Revenues in Asia Pacific were off about 5%. Club car revenues decreased slightly compared with last year due to weak economic fundamentals and key golf, hospitality, and recreation markets. Year-over-year, market share held steady in an historically difficult market. Soft golf market revenues were partially offset by improved sales of low-speed electric vehicles. Industrial's operating margin of 12.4% is a 1.9 percentage point improvement from 2008. The volume declines in unfavorable currency reduce margins by 4 points. Improvements in productivity more than offset the volume decline, and in industrials case, contributed six points.

Please go to slide number 13. The new residential solutions sector, which includes Trane and American Standard HVAC product lines and the Schlage Security Residential business, had fourth quarter revenues of $457 million, up 7% compared with last year. It appears that we have finally reached the inflection point of the long downcycle in the residential market and we expect to see improvements going forward, driven by increasing residential construction and strengthening of the replacement market. Revenues for security were up slightly as new products and share gains in the US more than offset a soft remodeling market and fall off in South America.

For the HVAC business, we estimate that industry shipments to new residential construction markets were down in the range of 30% to 35% in the quarter and replacement unit shipments increased over 30%, combining for an overall increase in motor bearing units in the range of 12%. We believe this growth includes extra industry shipments of R22 systems, which are being phased out. Excluding these extra shipments, we believe the market was up high single digits. Our residential HVAC sales were up 14%, principally from higher volumes and mix, as we did not participate in the R22 system load-in. Operating margins of 7.5% improved significantly compared with 2008, helped by the increase in volume and significant productivity and cost reduction efforts.

Please go to slide number 14. Revenues for security technologies were $454 million, down about 7% and down 11%, excluding currency. America's revenues in the commercial sector were down 22%, reflecting soft commercial building markets,. Securities European business was up 11% on a reported basis and up about 1% excluding currency. Asia revenues were up significantly, almost 50% on a constant currency basis. Operating margin for the sector was $76 million or an operating margin of 16.8%. Excluding restructuring costs, margins would have been approximately 20.7% or only slightly below last year on a comparable basis. Accelerated productivity, strong cost control discipline, and prior period pricing actions added seven points to the quarter's margins and offset the loss of seven margin points from volume declines in negative currency.

Please go to slide number 15. Let's switch gears to talk about productivity which continues to be an area of relentless focus. This slide shows a summary of cost reduction and productivity actions for full years, 2008 through 2010. As you know, we have challenged ourselves to achieve annual gross productivity improvements of 5% or better every year. This represents a step level improvement to our historic productivity performance of 2% to 3% a year. In the fourth quarter we achieved $188 million of savings, which equates to gross productivity of 5.9%. For the full year of 2009, we achieved savings of $681 million or 5.3% gross productivity.

You can see both the cost and benefits of productivity programs on this slide. We expect gross material are and labor productivity to reduce our costs by 2.5% to 3% per year in 2010 and beyond. Our target for Trane acquisition synergy savings has been increased to a cumulative $500 million, including growth synergies through 2010. Breaking this down further, ongoing cost reduction synergies will contribute almost $400 million through 2010 and our already announced organizational restructures will add $90 million next year. Restructuring program savings should add another $350 million cumulatively as we complete activities begun in 2008 and initiate new ones associated with improving capacity utilization, consolidating core processes and to focus centers of excellence and accelerating our low-cost country sourcing and regionalization programs. We expect to now achieve an incremental restructuring benefit of $145 million in 2010. Cumulative benefits of $359 million in the restructuring category and the $90 million shown in the organizational restructuring portion of the synergy category, which are starred on this slide, will require about $280 million in spending to accomplish by the end of 2010. Our productivity focus is expanding to all aspects of our Company and is simply becoming a way of life.

Please go to slide number 16. This slide shows our next big productivity opportunity, and that is to significantly improve our manufacturing capacity utilization. As you know, in addition to Trane, we did many small acquisitions over the last ten years. The result of these acquisitions and the current economic downturn mean that in 2009, we had overall capacity utilization of about 30%. We also have experienced unacceptably high levels of unabsorbed overhead in the range of $50 million to $60 million a month.

We completed a corporate-wide study in 2009 and started to take actions in 2009. Over the next three years, we plan to complete the process of optimizing our capacity footprint. These actions should raise our utilization rates to a level of 60% to 65%. A return to more normal economic activity will drive utilization rates even higher, allowing us to achieve very attractive leverage rates as production volumes increase. We see three significant benefits from this initiative. First, we will reduce our cost base at today's volumes. Second, our profit on incremental volumes will be in the 35 plus percent margin range. Third, we can direct more new equipment -- I'm sorry, more new investments to innovation and new products rather than investing in brick and mortar.

Please go to slide 17. In addition to our productivity programs, we continue to make significant investments in new products and services. Close to $2 billion of our 2009 revenues are from new products and services introduced in the last three years with a number of new offerings in each of our businesses. We invested over $500 million this year in R&D, engineering and CapEx, not including marketing and promotional expenses, which drives both innovation and value engineering programs. This slide highlights four significant new product areas. Reinvesting in our business is critical to our future growth, and we have a full pipeline of products and services many of which are synergistic and combine capabilities across our businesses. Many of these offerings are unique to Ingersoll-Rand, and will continue to strengthen our market positions.

Please go to slide 18. As we have discussed on many occasions, the need to deleverage the company in the face of very difficult economic conditions has been and will continue to be our top financial priority. I am again extremely pleased to report that due to the unprecedented $1.6 billion of available cash generated, we've been able to reduce total financing by over $1 billion while maintaining cash balances of around $900 million. The outstanding commercial paper balance has remained at zero since the end of the third quarter, and our liquidity cushion is still at $2.25 billion. We ended the year with total financing at $4.1 billion, which equates to a total reduction of almost $1.1 billion for the year. A number that is well above our $675 million deleveraged goal that we set at the beginning of the year for 2009. We also have reduced our total net financing by $2.1 billion since the completion of the Trane acquisition in June of 2008, which is slightly ahead of the rate of deleveraged promised prior to the acquisition, in spite of the lower levels of EBITDA resulting from the severe economic downturn.

Please go to slide 19. At the beginning of the year, we were confident that working capital reductions could be achieved given the soft markets, but we're really not counting on creating a whole new standard of performance for Ingersoll-Rand. The Management's focus on cash generation has been intense and the results allowed to us outperform our cash targets this year, but to also raise the bar for working capital performance in the future. We finished the fourth quarter with working capital at 2.2% of sales, less than one-third the level of a year ago. The biggest performance improvements have come in inventory turns, receivables, and payable days outstanding. Receivable DSOs improved significantly in the fourth quarter and (indiscernible) continue to be a drag. Only about 35% of the total $847 million reduction in working capital was related to the decline in volumes. The lion's share was due to better processes. Underlying improvements that have been made in manufacturing, systems, and processes, footprint restructuring and supply chain and logistics management are paying off in the form of lower working capital as a percentage of sales. We believe that these improvements are sustainable and will help maintain future working capital to sales ratios in the low single digits even as volumes improve over the next few years.

Please go to slide number 20. This chart provides a lot of detail in the makeup of our available cash flow. We showed this analysis back in February at our analysts and investors meeting as a road map of how we're going to generate the $920 million of cash necessary to meet our deleveraged goal of $675 million. Today, this analysis shows what has been done in the face of lowered and planned earnings to drive the generation of cash. To date, working capital has been reduced by $847 million. This focus on working capital and the efforts to effectively manage our cash taxes produced available cash of almost $1.6 billion and we expect approximately $1 billion in 2010.

With that, I will turn it back to Mike for the forecast.

Thanks, Steve.

Let's go to slide 21. One year ago we saw significant downward shifts in many of our major end markets. Many of those markets appeared to have bottomed in the second half of 2009. Fourth quarter order rates were flat compared with last year, a notable improvement compared with the double digit year-over-year declines in the first three quarters of 2009. Our forecast for 2010 continues to call for a slow recovery in the US and Europe and mixed activity levels in our major vertical and end markets. We're operating with what we believe is a conservative baseline for 2010 consistent with our most recent readings on our end markets.

Let me start by reviewing the updated economic assumptions behind our 2010 forecast. This slide is an updated summary of the key economic and business metrics for 2009 and forecast for 2010. For US construction, residential building markets appear to be bottoming at very low levels compared with 2006 as peak. Nonresidential construction is expecting a single digit reduction in contract value and square footage. The outlook for nonresidential building deteriorated through 2009 as a slower economy and tighter credit negatively impacted starts. This ongoing soft nonresidential construction will impact our commercial HVAC equipment and security businesses.

The reefer trailer markets in North America and Europe appear to have reached their inflection points. Order rates have solidified over the last three months and recent order rates indicate that the North American market could reach 26,500 units in 2010. European reefer truck and trailer markets are expecting a weak uptick in 2010 as well. Industrial production and capacity utilization had a major dropoff at the end of 2008 and first half of 2009. We expect these markets to gradually improve through 2010 and support low to mid-single digit revenue growth. We would also expect moderate growth in Asia. Finally, our forecast is based on a dollar to year ratio of 141.

Please go to slide 22. Based on this macro economic view, we expect revenues for full-year 2010 to be up 2% to 5% compared with 2009. We expect industrial and residential to show gains in the mid-single digit range as markets recover. Climate control revenues are expected to be up slightly with declines in HVAC equipment and gains in refrigeration, contracting parts and service. Security is expected to show a year-over-year decline due to its exposure to nonresidential building. All this results in a 2% to 5% full year growth for all of Ingersoll-Rand.

Please go to slide 23. This slide bridged our pro forma 2009 performance with our 2010 forecast. Starting with 2008 at $1.65 per share from continuing operations, we expect to generate approximately $1.65 to $1.70 per share in benefits from productivity actions, restructuring savings and the acquisition synergies. Total inflation of 3% will be a $1.00 to $1.10 drag on earnings. Aggregate currency, investments, interest expense, a higher tax rate and higher share count will cost us $0.35 to $0.40. Price, volume and mix should contribute $0.40 to $0.60, more than offsetting these items. Total EPS for the continuing operations forecast will be $1.95 to $2.35, including $100 million of restructuring expense and $145 million of noncash amortization charges. Excluding restructuring costs, EPS from continuing operations is projected to be $2.20 to $2.60 per share, which is a $0.20 higher range than what was projected in our original 2010 earnings framework of $2.00 to $2.40 per share.

Please go now to slide 24. So in summary, we're forecasting 2010 revenues up 2% to 5% and total operations EPS up 50% at the mid-point. First quarter revenues are forecast up 2% to 5% as well, as the economic recovery remains sluggish in the North American nonresidential construction markets continue to decline. Reported EPS from continuing operations for the first quarter are projected to be approximately $0.10 to $0.15 on a reported basis, up substantially from last year when we incurred a loss of $0.06 The first quarter results will include $25 million of restructuring and $36 million of amortization expenses. To sum up, we expect 2010 to demonstrate some modest revenue growth and significant earnings growth as we continue to deliver on productivity, introduce new products, and strengthen our presence in major markets. We remain focused on programs which will make us a better performing Company at all points in the economic cycle. We're delivering cost synergies and now expanding our growth synergies as well. We're organizing our business to take better advantage of market opportunities. We'll realize savings from restructuring and are targeting productivity at the 5% level. We solidified our balance sheet in 2009 and are working to further reduce our debt balances in 2010. We're dedicated to generating over $1 billion available cash flow and we are continuing to invest in innovation to fuel growth into the future.

That concludes our formal comments and we would now be happy to take your questions. Danielle, if you could help us, please?

Absolutely. (Operator Instructions). We'll take Terry Darling with Goldman Sachs.

Thanks, good morning.

Mike, wondering if you might be able to help us with margin expectations by segment for the first quarter and then for the full year? Obviously the first quarter guidance relative to consensus, the revenues aren't too far off, but people are trying to understand better the sequential margin performance there. While you're at it, can we talk about that on the full-year basis, too?

Yes, sure. We'll start with client solutions and take a look at Key One there. All of this will include restructuring and purchase price accounting, so I'm giving you a net number here. We should see OI in the 3% to 5% range. When you move over to industrial, I'd look for that to be closer to the 8% to 10% range again for quarter one.

Residential probably looks a lot like climate solutions kind inform that 3% to 5% range. And security technology, it's typical of that business. It'll be a lower first quarter, somewhere in that 15% range there. On the full-year, of course volumes come back, particularly in the climate business. Pretty dramatically in Q2 and Q3.

As you look at full year, you're looking at climate probably in the 7% to 9% range, industrial in the 9% to 11% range. Residential probably 9% to 10%, and security 17% to 19%. There's an example where we've historically talked about that business being 18% to 20%, but again, remember it's about a point of restructuring that we'll see in security throughout the year so that's where we get 17% to 19%.

Just thinking about the sequential drop in EPS overall, excluding restructuring, but including amortization, relative to normal seasonality. I know the world is still in this mix between thinking sequentially and year-over-year. In the margin outlook, what is different from normal seasonality, as you go through all those segments?

Looks like maybe climate solutions a little bit, but I don't have the -- I'm not adjusting for the restructuring piece in there. So I'm just trying to think about what's abnormally down seasonally here to create that stiffer decline in EPS overall.

Terry this is Steve. Let me take a shot just put the whole enterprise in perspective before we dig into the pieces. If you look at the enterprise, you can triangulate the first quarter a couple ways. First thing you look at is quarter one of '09 versus quarter one of 2010. Where we are there is roughly at mid-point of our guidance for 2010. The revenues are up like $90 million, okay? If you look at what happens to OI, this is -- even considering the fact that there's more restructuring in the fist quarter of 2010 -- first quarter 2010 than it was 2009, that's about 100% leverage.

The OI has to leverage at 100% of the revenue Delta to get to roughly mid-point of the guidance we gave you. You triangulate from the fourth quarter, fourth quarter is $3.3 billion, the mid-point revenues would be a little over $3 million. So the fourth quarter leverage down if you consider the fact inflation's going to be higher, the fact that foreign exchange is a little bit worse in the first than it is in the fourth, we leveraged down in the $300 million of revenue by about 35%. If I take you into that 35%, that might be a little bit high compared to what we have been leveraging down in the past. What you find is that we probably have a pretty serious impact of the security commercial business in that mix.

That's probably the -- but it's not unusual relative to the seasonal profile that we would typically see first quarter versus the rest of the year. For instance, if I can look at first quarter compared to where the second quarter, third quarter would normally be, to hit the guidance range of revenues we've given you, we would see the $600 million to $700 million increase between first and second, maybe third quarter type ranges off of that $3 billion base. When you look at $600 million does at a 35% leverage that's around $0.55 a share.

So you can see how you triangulate first quarter of the enterprise and how it builds back up because of the seasonality we see in the second and third quarter. What would drive that would be that our service businesses are much higher in the second and third. You see some of the businesses that are turning around; typically, the second quarter is a strong quarter for Thermo King, for instance, and we'd expect some of the businesses that we are looking at on the leading edge here kicking in in the second, third quarter period.

So that's the profile at the enterprise level, and we do have a little bit of a mix because some of this nonresidential construction impact, particularly on our security business, has a bit of a negative mix for us going into the first quarter.

That's all very helpful. Just maybe tag on one last one. That's just with the balance sheet strength here, if you take us through an updated thinking on use of that strong balance sheet and free cash as you move through the year, doesn't look like you've got anything built into the full-year forecast there, but maybe you can true us up on that point, too?

The story has not changed. We're committed to achieving really fitting back into our BBB+ ratings. We have to get our debt to equity -- I'm sorry, debt to EBITDA, sorry, into the 2.0 range, okay? Again, the way we're going to do that is we're going to pay off the maturities coming due in 2010. We'll be looking at our plans would be for 2011 to see if we can get back to that 2.0 sometime in 2011. That's absolutely the total focus that we have at this point. I think once you get into 2011, then you go back through all of the things that you take a look at relative to capital allocation, everything from reviewing our dividend policy to looking at minimal share buybacks to control pollution, possibly acquisitions, etcetera. That story's not changed.

The next question in queue will come from Robert Wertheimer with Morgan Stanley.

My question will be on the applied side. If I heard right you're orders sounded like they were really very strong in December and January. Did I hear right? Is there some comp issue that they were just extraordinarily bad off the comp? I would have expected applied to be one of the areas of weakness.

One of the surprises we had in the fourth quarter, we thought we would get there with applied being stronger than unitary. Interestingly it flipped. It flipped the other way. Typically, the mix works better for us when it's a little higher applied in terms of leverage on that.

So that was a bit of a surprise for us. But I guess the flip side of the order rate, you're correct, was higher in December and January. The outlook we have because those are typically longer lead products in terms of loading in our plants looks really good for the quarter; we feel like it supports the forecast that we got out there. Unitary, I think it's going to continue to be relatively weak for us. Applied, I think is going to be a good story.

Actually, Rob, the way it is working is some of these larger institutional projects, some of these projects that involve chilled water plants in particular are starting to move again for us a bit. It was a pleasant surprise for us in December and January.

Can you describe on those orders the pricing environment and whether you think you gained share or whether it's really that end of the market is just that much healthier on stimulus?

We launched the (indiscernible) end of product in August, and we've seen share gains in the AHV business. We turned that around after a six, seven year decline. That's been great. We've talked about that. We expected that to happen. The team has come through on that.

We also localized for Asian product -- the applied chiller business is now in China for the Asian market, so we're manufacturing screw chillers there now. We're moving centrifugals there as we speak. We'll really be in the region of use. That's providing 12 point and 15 point margin bumps for us by putting that into the markets that it's serving. Also helped us gain some share there as well. We had great activity in China; let's say we picked up share there as well as a result of that screw chiller product going in, which is really the number one product going into that market.

Great. I'm sorry if I'm still on. Just the pricing on that applied side, is it still okay?

Yes. It's good in applied. Unitary as you get toward the white, unitary gets a little bit tougher. I think it's behaving well. Commodity costs, I heard they were down. Copper was down, I think a nickel today. Two days ago was up $0.10 Those are big swings for us.

When you look at the uncertainty coming into that, I think the behavior from companies like us is to expect a little more inflation, price accordingly and you're not seeing any real bad behavior on that side of things.

Thanks.

Next we'll here from Nigel Coe from Deutsche Banc.

Yes, good morning. Just wanted to dig into the 1Q and the full year phasing. Steve, going back to the map that you put out there, let's say $0.20 for first quarter. Let's say $0.50 pickup from 1Q to 2Q. Seems to imply the full cue has to be at a level in line or greater than 3Q and 2Q which doesn't feel right. Is that how you feel about the year, or am I missing something?

You look at how it plays out, Nigel, two big quarters will be second and third quarter. Again, you get the benefit of the volume there. You look at second quarter being up say $600 million to $700 million from first, and third quarter roughly the same maybe a slightly more, maybe $700 million to $800 million up from first. So, you get not only the leverage on the volume there, but also, those are two biggest quarters from a service perspective.

Some of the contracting backlog is going to fall through during those periods of times, so we expect the peak of our earnings cycle to be in the second and third quarter. Fourth quarter would be up incrementally from fourth quarter this year simply because of the fact that we'd expect our revenues to be up slightly from year to year.

Nigel, I'd probably add, too, that we'd see our strongest in the fourth quarter. I think that's a bit of a pickup. In the last 60 days, we've announced closure of six of our plant facilities, three in North America, two in Europe, and one in South America. So we're moving on that and will be through with a lot of that transition as you get into Q3 and particularly Q4.

So just to clarify, the pickup from 1Q to 2Q should be greater than $0.50?

Yes, should be around that midpoint to midpoint.

Okay. Then the chart on utilization is interesting. What is your bottom growth assumption to get to that 60% range by 2012? Do you think it's possible to accelerate restructure and get there quicker?

Nigel, I didn't hear the first past your question?

What is the volume assumption to get to that 60% to 70% range by 2012? Is that on flat volumes?

Utilization, yes it's on flat volumes. If we just size it for the volume today, we know we could roughly double capacity. And the reason it's 60% to 65% is we're leaving room for growth.

So I think as most people know, once you get into the 70's and 80's on a five day a week two shift even a 20-hour a day relative to doing maintenance, it gets pretty tight. 65%, 66% with double utilization, leaving room for growth. That growth is consistent with our long range plan over the next three years.

Now we'll hear from Jeff Hammond with KeyBanc.

Good morning. I applaud you for moving away the extra structuring, but just so we can see apples to apples, and you mentioned, I think security, Mike. Can you run through where you think the margins get impacted by business? I think you said, for instance, the point of restructuring in security.

Yes, Jeff, let's take a look to see if we can do some of that for you. The point security was the most notable in the fourth quarter. Get about four points. It's relatively across the board. Steve, I don't know if you have any other comments?

Maybe if you want to dig in on that, I can ask a quick follow-on. As you look at the bridge, you got this $1.00 to $1.10 of inflation How much of that is commodity inflation? Within price cost mix, how much price do you have built in?

We look at the non-ferrous and steel commodity portion, probably need to be up about $80 million year-over-year. It can move $20 million in a week right now with what we see on copper. As it relates to all inflation looking at labor, and other inflation, and other direct material. You get into that $180 million range for material and probably about the same for other inflation. We're still thinking close to 3%. It fits the 3% inflation model that we gave you earlier.

In terms of price, we, in the fourth quarter, put in place and did a lot of analytics and diagnostics around pricing. Interesting around price, again, as many people know, raising price doesn't always mean increasing price. It means you have to take a look between your price and your net and where do you leak it out?

We've done that across each of the businesses by region, by business, and put a plan in place to really address that for the year. We're going to attack that like we did productivity in cash. So through that we're looking at, basically, covering about a point of price. Ideally, we'd like to cover all of direct material inflation, so we put a challenge out there to the teams to look at that, maybe even do a bit better.

Okay. Thanks, guys.

Thanks.

Our next question will come from Steve Tusa with JPMorgan.

I'm sorry, did you say point of what was that? A point of price?

Point of price.

Positive price for the year?

Correct.

Okay. On that slide following up on Nigel's question, the slide about the capacity utilization, what was that in 2008 or whatever the peak was 2007?

The portfolio was so different back then, as you can remember, for us that it really wouldn't make any sense. I would tell you that I think at that point in time as best we can tell, we would have been in the maybe high 40% range. As near as we can go back and tell or the time we want to take to do that, we zeroed in on that.

As we brought in Todd Wyman and we've become more focused on the restructuring projects on uniform metric across the businesses and really getting out to see the major facilities, we're probably finding more capacity still. So we would have thought probably four to six months ago we were in the 35% range. We found more. We're absolutely sure that we found more, and that's a good thing on one hand, but clearly, we're probably closer to the 30% as we stand.

Mike --

Yes, go ahead.

How do you -- obviously you're coming into this position. Clearly, if you are running at 40% capacity utilization at the peak of the cycle -- how do you make these changes with the same management teams in place? I mean it just seems like that is like gross mismanagement. It's hard for one guy to drive that much change throughout an organization.

So do you think can you do this with the standing personnel or are there the more significant changes you have to make going forward?

The last question would be, are we now dialing into the consensus numbers, $50 million to $60 million over the next few years so that's now going to be part? We're not going to be doing adjusted EPS anymore, is that correct?

Yes. You're going to get a heavy dose of this in May when we get together, and we'll talk about more details around utilization plans. First I'm going to tell you, I've been here six years and I've worked with a lot of people within the organization. We've got great people. It's not the issue around people.

We had such disparate businesses. It was very, very difficult to move these processes in a common location. We do not have the disparity businesses for the most part at this point. We can move precision machining, we can move assembly operations, we can move metal bending; and we're doing that across these businesses.

So there's a plan. We have put some leadership in place across the top of the Company and within the sectors and leading the sector charge. It's more aligned than it's ever been before. I think people are relieved that we're taking action with it, so that's where we are. That's the opportunity.

Thanks a lot. I appreciate you guys acknowledging the concerns on the first quarter and giving us all the detail. It's somewhat of a differentiator from others this quarter. Thanks.

Hey, Steve, just add one thing about Mike's comments about where we find ourselves. We've done over 60 acquisitions in the last ten years. They were all bolt-on, small places. If I were to show you the chart of how those factories line up, we have very, very few factories of what I can call operating in the optimal zone. In other words, they're just all too small, they all have a plant manager, have back office functions, etcetera.

So it's a product of how we've built this Company, not so much the product of any individual management styles. So as we now have solidified the footprint with the Trane acquisition, we're in a much, much better position to take on this as an optimization opportunity and get that fixed as we go forward.

Steve, last point, good point to raise for others as well. When we look at the data that's put out from the government regarding cap utilization, it's companies reporting that data. When we look at that, it's really a five-day a week, 20-hour day, two shifts, and maintenance. So again, as you go from Company to Company and compare that metric for us is five days a week, 20-hour day.

Got you. Thanks a lot. I appreciate it.

Thank you.

Next in queue, we have Jeff Sprague with is Citi Investment Research.

Thank you very much. Last day at Citi Investment Research. Hope to see you guys on the other side, hopefully.

Just a couple things to follow up on whole the restructuring idea. You'e spent $450 million on various restructuring in '08, including what you're doing in 2010 to accomplish what you've done so far. But now year talking $50 million to $60 million annually to get at the rest of all this capacity? Am I comparing those numbers right? Is that a comparative thought and why would the dollar amount to get at the rest of this be so much lower?

You've got the numbers right. I think that total spend the last three years on restructuring projected through the end of 2010, Jeff, is about $280 million.

Yes.

If you look at slide number 15. So it's $280 million, okay? And it's driving roughly $450 million worth of benefits, okay?

Okay.

All right. So I think that helps you with your thinking a little bit, but we think the way we've been doing these is very much, very high priority projects that has very quick turn arounds.

We take a look at doing these in the face of increasing volumes in our factories. The payoff is going to be even quicker. So we've had some pretty good experience with the restructuring program so far. We're projecting similar experience and performance going forward.

Jeff, we front loaded these projects. These are 2009. They were projects that would pay back in a year, as you look at 2010, 2011. We've gotten now a little bit of momentum to carry forward. We're getting into some projects that are 18 months and two years. Some might even be longer that need to be done.

One of the nice things about giving you net guidance now is we've got more stability and understanding of what the carryover is, what the spend is and feel more comfortable being able to give you that net guidance. The other thing, too, I think Nigel asked the question, could you be faster? The reality is we're trying to protect customers, protect share. We're trying to manage within ourselves here in terms of the change. This three-year plan is linear in terms of what we need to do and how we're thinking about it.

We've put in place a program management office under Todd to help us execute and support these businesses where there might be a stretch with some of the change as well. We're comfortable with what we've got here over three years.

Is that $50 million to $60 million, steady state ongoing for the Company or would it throttle back a little bit more once you've got all this accomplished some.

To be honest with you, if we had our druthers, we'd spend more earlier. Mike addressed that point, I think, very well. We think $60 million for the foreseeable future, Jeff. It's the main reason we wanted to incorporate the restructuring spend inside of our guidance going forward.

Definitely the right thing to do. Just one other question. Could you elaborate a little bit more on the pickup and service orders? Do you think it's stimulus related? Is it energy efficiency related? Does it tie to any particular vertical market? Whatever color you could give there would be helpful.

Jeff, it definitely does not tie to stimulus, would I tell you that. I think even McGraw Hill said $120 billion that was originally forecast. They may see $1 billion out there across the whole pipeline from concept all the way to complete. That's not the case.

We're seeing it in energy efficiency. We're seeing it in the contracting business. Typically there going to be turnkey contracts where we'll go in and replace chillers and (indiscernible) equipment as the turnkey contractors as the equipment pulls through the contracting, project management aspects of that, the controls element. That's the business that Steve, in his comments, mentioned is booming and backlogs were up, say, 40%.

It's exciting and people within the to know questions last quarter, the quarter before. We told you it was building. We're starting to see that in the first quarter. We get these high, maybe double digit boost coming out of that revenue stream. It'll build through the year. These contracts will go from -- could be on the short end of four to five months and could be 18 months.

Booming is a word we haven't heard too frequently. Sounds like people were sitting on this stuff trying to get to a certain level of economic comfort and then just started pulling the trigger?

These are complex jobs to put together. You've got to prove the engineering analysis, you've got to go do the building modeling. You're typically selling it on an executive level on a return on investment capital type equation.

It might take you six months to put together a project like that, and I would say it started at the summertime in the worst of what we were seeing in the economy. Now you're seeing the benefit of that come through in terms of orders and execution. I think it'll continue.

Thanks a lot.

Hey, good luck to you, Jeff, as you start your new job, too.

Congrats to you.

The next question will come from Mark Koznarek with Cleveland Research Company.

Good morning, Mark.

Mark, your line is open. Hearing no response, we'll move to David Raso with ISI Group.

Hi, good morning. I'm trying to look out to '11 a little bit and some of these utilization initiatives. The productivity numbers you've used in the past, about 5% was the goal. With these activities, are we thinking that's a number that will be going up, especially looking ought to '11? If you take the 2010 revenue guidance, every 1% incremental productivity gain in '11 adds $0.30 a share. Or am I missing the point that some of the synergies we've had from the Trane acquisition and other activities begin a slowdown by the time you get to '11?

I think that's what I think about it, Dave, because what we want to do is really a three-pronged approach here. First of all, that ongoing rate of productivity coming from material productivity, VAVE that base range of 2.5% to 3%'s got to go up. And as we're building the capability and the resources to do that, that piece that we've got to see increase in the longer term. There's no question that the synergy savings will fall off. I think it'll start dissipating into gross synergies and the main reason we formed climate solutions and residential was now shall we say "institutionalize" the ongoing synergy. That piece is going to be more of a growth, synergistic opportunity as opposed to cost by the time we get to 2011. But what starts ramping in to offset some of that is the footprint management. We would expect to see 5% gross productivity into the foreseeable future because of those dynamics.

To be fair, though, I think, this is still an industrial company. Capacity utilization rates are pretty powerful on earnings. Yes, you're losing some synergies, but if your past utilization can improve that much, not just from the typical volume improvement but truly structural change, wouldn't we think there's an upward bias to it? I assume you'll go through this in a lot more detail at the spring meeting? Can you articulate how you're thinking about the restructuring benefits?

We've always said that we believe that we're going to get the 15% operating margin business and you start to look at the pieces of that over time and we've said if we can get utilization of what we needed to be, it can be 3 to 5 points of margin. You look at this whole top line margin expansion initiative we're kicking off, that could be a couple of points as well. So you can start putting the pieces together. We need these things to happen.

Probably as important as anything, maybe more importantly, you've seen a pickup in innovation spending. Actually it's even in Q1, this $0.04 of incremental investment spending in Q1 around product and service innovation. And that's the other piece of this thing that, we've got to get working as well.

To your point about 15%, I know it's a big picture goal, but if you just tack on '11, some improvement in the economy, nonres is less of a drag, and let's say we can look at a little bit of volume, you get revenues up 10%. If you get your margins up to 10%, you're over $3 earnings. But to talk 15% and not even be up to 10 by '11 would seem to be a little inconsistent. Am I misreading how we should be thinking about margins in '11, getting to double digit already?

We're grinding out a couple points here in 2010 and the hard work you have to do in productivity is really grinding out another couple of net margin points in 2011. That's the pace of the march that we're on.

I think the way to look at it is what we seed this year on the guidance is we believe that 5% is doable. What the wild cards are is, obviously, the volumes, but the inflation as well. And we built in a healthy dose of inflation for 2010. So you'd expect going forward that net increase in margin should be in the, I'd say, 1.5% to 3% range with a 5% type of gross productivity. It's all based on the cost of the commodity inflation's going to do.

Can you clarify price versus cost GAAP again?

If you look at the price side, we're looking at a point. We want to get a point out of 2010. If you look at how that matches up against direct material inflation, we're not quite covering that, right? Direct material inflation is going to be about 140 basis points, price is about a point, so we've got a little work to do there, even to recover direct material inflation.

Yes, but I don't want to look at price as only having to cover my material cost, I need price to cover all my costs. Pretax is like 4%.

They were on the same page. With the overcapacity right now in the industry, if we can get the market to behave with positive pricing that's going to be a step in the right direction. We're in no way settling for not covering direct material inflation or even covering all of inflation.

As we go back over five years, we haven't done that. This is going to be a very programmatic approach that we're going to take across the business. This is going to be a major focus for us in 2010.

Thank you very much.

Sure.

Next we'll hear from Mark Koznarek with Cleveland Research Company.

Hi, am I on the mike now?

Your line is open.

Hi, Mark.

I had a follow-up on the HVAC contracting business. We spoke about that a minute ago. I image that that stuff eventually when you say it comes to fruition anywhere from four to five months, 18 months, that pulls in a lot of equipment sales, I imagine. What I'm wondering is what kind of visibility in terms of proportion of the HVAC business can you view via these contracts, this contracting activity?

Mark, when you take out the buy, sell, the resale revenue we get because you do customer contracts, you get a service business. In the Americas, it's probably 40% of the total. Contracting the way we measure it is just the contracting portion of that. Typically, contracting for us has been a third of that, but it's growing quite rapidly so it's very quickly moving up the mix.

We pull the equipment through at great rates. We measure that in the equipment number. So when we're giving you a contracting number it's really a non-equipment portion of what we're doing. We only do it when it pulls through equipment. We really don't do contracting and turnkey and performance contract work where there isn't our own equipment going out to the project or healthy proportion of our equipment. That's really the value that we've got.

I understand that, Mike. The question to state it more clearly, is your contracting business pulls through OEM equipment and your OEM equipment on the commercial side accounts for roughly 40% of the HVAC business. How much of that is pulled through via contracting?

Okay. So it varies wildly. The smaller the contract, the higher the pull through; the larger the contract, the more subcontracts for managing, more project management. Mark, number one, it's going to be a pretty wild number. If you looked at it probably in aggregate, again it's going to depend on the mix and size of the contract, you'd probably get 30% to 40% pull through equipment coming off the contract. So every $1 you're pulling through $0.30 to $0.40 of equipment through that.

Okay.

Wide variety, Mark. These $40 million contracts we've booked, they're going to have pull-throughs of 8% to 12%. You get $150,000, $200,000 contract, you could be pulling through 80%.

Okay. I got you. That helps triangulate it.

The second one you mentioned, just real briefly, stimulus. It sounds like your underwhelmed with the progress. I know a quarter ago we were talking about $6 billion rolling out over three years. You were hoping to get a third of it. Can you just update us on where that stands specifically?

We took the $120 million and we used the usage factor of 5% got to the $6 billion. I remember we talked about that. We never included any of that. We said we're not going to include any of that in the 2009 forward forecast. We're not even thinking about including it in 2010.

Glad we didn't do that because it really isn't spending that way at all. It's a fraction of what we've seen. We probably have done something in the neighborhood of $100 million that we can attribute to that. We probably could do a little better than that in 2010, but it's not really been a meaningful aspect of our business.

So we're not expecting a big loaf to drop in out of the sky this year?

No, no. If it does I think we've got, as you know, plenty of capacity to handle it. No, I don't see us counting on that.

Okay. And finally,there a date for the spring meeting?

May 12.

Thank you.

Next in queue we will hear from Daniel Dowd with Bernstein.

Good morning.

Hi.

I wanted to follow up on the hidden factory excess and capacity utilization you've been talking about. So one way to improve the result is actually to compress the square footage. There's other implications as well. You could have a systematic effort to be moving things offshore. That has cost implications even at the same level of capacity utilization and also probably has tax implications. Do you have a sense of how much of this is all, shall we say, constant geography and how much of it is likely to move things as cross geographies?

That's exactly what we're going to lay out in May. We're going to lay out in detail adds to how we see that. Square footage isn't the only way of measuring utilization because it's really around tag times and around cycle times inside the facilities. We've got -- they handle both. We've got reduced rooftops because we've got too many, but there's also a lot of round process excellence within that. We put it in place across the Company a program called GAAP to Excellence, where we're going and really doing a lot of these studies around theoretical and actual performance looking at GAAPs and tacking it one line at a time, one product at a time.

At the same time, the strategy around low-cost country sourcing has been really to get to region of use. What we make often times is fairly large and cumbersome. Think about a chiller or big air compressor; putting that in the region where you sell it is critically important. Of course, you got labor benefit of that as well. As we developed suppliers in these locations there's the added benefit of being able to develop a supplier, and often times send a part back or we might be buying it locally.

We're looking at that as well. So it's a combination of really all those things that I would tell you are baked into this plan.

Okay. Let me turn to one other issue briefly. When you talk about re-investing the business it says the targeting of $2.5 million renovation in 2010. That's something like 19% of your revenue in 2009. How much of this is actually incremental? Presumably some of the things dropping out of your portfolio and being replaced by this?

These are not. In other words, what we're looking at is really three-year innovations. Of course, they drop out after three years, so if it was a big innovation -- we've had it happen before where the number actually may dip a point, but it's a three year cumulative total, we only look at it a very specific way. There's a matrix we look at to define if it's an a, b,c, or d project, whether its a new product, new segment, or an existing product in an existing segment, we have ways of categorizing that and rules of play.

There is rigor around how we do that. We have every sector -- every business report's on that. We have a definitive long range plan through 2012 about where we want that number to go. We've been vocal about that. We want to see that up in the 25% range in 2012. Frankly, that's not world class. We've got lots of room beyond that. Getting that moving an important -- in terms of book investments, it's critical for us.

In fact, it's very important if you look at the -- we're trying to improve the ratio of what is not replacement revenues. In other words, how can we drive more incremental? That's why we keep track of it the way Mike described it. To a large degree, these new products are offsetting what's in our base, but we have focused and have metrics in place to drive the incremental piece, specifically.

Thank you.

Next, we'll hear from Andrew Casey from Wells Fargo Securities.

Good morning.

Good morning.

Most of the questions have been answered, but wanted to go back to the 2010 guidance. In the release, you commented about contingency plans if markets are beneath what you're expecting, and if you could use slide 23, can you talk about what variables could improve to offset in the event of lower volume leverage?

Yes. I think the lever that we have been able to push the hardest has been cost control. Obviously, if you take a look at achievement productivity this year, we're on a roll. We have already geared up for the restructuring program. We would just do more of that. That be with our first choice.

I think if you were to take a look at the amount of opportunity we have here to not only reduce our cost but also control inflation, it would be primarily a cost driven move we would take to protect ourselves on the downside.

Okay. Thanks, Steve. Then just to clarify, and I think you said this but I may have missed it. On the $0.15 investment in had the utilization improvement, is that basically even by quarter or is that front loaded in any way?

I was working on now, it's going to be a little heavier in the first half. What's falling off of the program is restructuring for the synergy-driven opportunities. You got a lot of the restructuring associated with the combination of the businesses in 2009, quite frankly. As we go into the future, that $60 million that we've talked about will start to become more constant throughout the quarters. This year's a little heavier first half, slightly heavier first half.

Remember, too, we took the big piece out of the fourth quarter '09, so we were -- roughly $50 million that we took in Q4 of '09. We did that very late sort inform the December timeframe. To get to Steve's point, it is a little -- when you include really the last month of 2009, it is fairly front loaded. That's why I think that fourth quarter productivity will be again, our best performance.

Okay. Thanks a lot, Mike. Congrats and early good luck to Herb.

Yes.

The next question will could come from Robert McCarthy with Robert W Baird.

Good morning, everybody.

Good morning.

Let me add my congratulations and fond wishes for you, Herb. We've known each other a long time and I wish you every success.

I have to say take this -- I'd be quicker to respond, but I have to take the duct tape off my mouth first.

It's funny because Herb walked in this morning and he's got a roll of duct tape sitting here on the corner and tore off a strip. He was threatening to use it.

I'm not going to comment on that. [ Laughter ]

Just buy more duct tape.

I just have a couple small follow-ups and appreciate sticking with us so we can ask all these questions. Not to be argumentative, but with all this discussion about 60 bolt-on acquisitions and the lack of integration work that's been done if you will, it begs the question of where you are on the process of adopting and integrating best practices from both organizations? So I guess my question is, do you have a formal acquisition integration process, and is it the same for the entire company or is that one of the things that still has to be worked on?

That is absolutely what we did through the acquisition, throughout integration. I mean, this whole review for the synergies, we still meet, Herb, Steve and I along with all of the other members of the team and the project teams, every two weeks on the integration. It was a very programmatic approach. We'll use it again, whenever we need to.

Then as you look at the operating standards for the business, the way we report, the way we use metrics. All that's gotten much, much better in the last 18 months. Probably driven because we began the operating system several years ago, and it's come to a point where we're putting it and engraining it in everyone's goals and objectives, and the way we conduct reviews both monthly and quarterly across each of the businesses. I do think the discipline is there. That's not an area that I'm -- of all of the worries that are out there, that's not the one that I'm worried about. That's part of what we're doing every day.

Hey, Rob, another comment. If you think about when's happening with the small acquisitions, it wasn't like we didn't integrate the businesses. What you've got is like the financial world. We have integrated the financial support for all those businesses, but in Europe, in particular, there was a lot of acquisitions that had a plant associated with a brand.

Yes.

So the up front piece of the business in the back office was integrated, but the factory itself, was still out there chunking out whatever product supported that brand. So this is the final frontier in terms of integrating acquisitions to some degree. But, I don't want to leave you with the impression that we didn't integrate those acquisitions into the core business.

I didn't intend to imply that. But, I was very interested in the idea that your largely reading out of the same book given that we're well past 12 month into the Trane integration.

Rob, you look back at the cash and productivity. Yes, I can tell you that's one of the highlight across the organization is that people were on that same page, and there was a drum beat, a cadence and review process and a lot of excitement about that. I think it's something built there that we want to build on going forward.

The other thing I wanted to ask about was Hussman's performance in the US refrigerated case market. If I understood correctly, you're talking about substantial year-on-year decline in the fourth quarter. Does look at least for that one quarter to be somewhat weaker than market. I wonder if there actually is an ongoing issue there that you want to get at to try to stop the erosion of your number one position in the US market?

Cases were down. Your point, mid-20% range for 2009. But when you look at Q4 in the bounce back there, bookings in total, we were down a couple of points year-over-year for the fourth quarter, so it's really come back. We've had some major wins in the last quarter that have come back.

In the fourth quarter, we mixed a little heavier toward contracting maybe than we would have liked, but that business is recovering and it's a little lumpy between Q4 and Q1. We saw that typically in December when orders were good and we bounced back in the quarter to finish the quarter done a couple of points, in terms of bookings.

But your read would be that you're not losing anything there. You're basically holding your own?

In fact, if you go back and look for the full year, we would have picked up share in the case market.

Is that your expectation for the coming year then?

The share there got fairly high. And so I think holding on to that share is one thing. Improving the profitability of the business is really the focus around the whole business model and getting that up to where we want it to be.

Good. Thank you.

Our next question will come from Shannon O'Callaghan with Barclays Capital.

Good morning, guys.

Hi, Shannon.

So you took up the revenue assumption versus your original framework? What areas would you point to as having gotten better?

I think if you look it's really the leading edge of businesses that are out there. I think the big hitter is our residential business led by residential HVAC. Those markets are coming back. They showed great return, positive performance in the fourth quarter, so we're on a roll there. You look at the bookings that came through Thermo King. We're seeing business pick up there.

Also there's some smatterings within the other businesses that have some promise. Mike talked a lot about the service and contracting businesses about the commercial HVAC markets. Those are reasons why we took it up.

I think the difference between the top end of the range and bottom end of the range, quite frankly though, is still nervousness about the commercial or nonresidential construction markets and the impact that they have on several of our big businesses. We talked about the impact on security as being a bit of a negative even in the first quarter of 2010. I think the deal with Trane commercial is, can we see enough improvement in our service businesses to offset what we know is going to continue to be a down market for the equipment side.

I would add the industrial business is specifically. That order book we didn't talk much about it. But that really picked up in Q4 and we're feeling like that's coming back coming into the year. That would have been one that a quarter ago we probably would have felt weaker about. We feel a bit better about the industrial business going forward.

And as look at 2010 and the ramp, aside from the normal seasonality you would see, which of those businesses do you see having a sequential ramp pattern that's more than typical seasonality? Is it Thermo King, industrial, anything else?

Industrial stays relatively flat. Climate's the big one. You end up with the big Q3 that we talked about. Res is the same. Res is a big Q2, Q3 relative to one and four. Securities, it's always got strongest fourth quarter. Historically, we've seen that falling through to margins as well.

So you don't expect anything outside of normal seasonality? Nothing's out of its own schedule for 2010?

No. We wouldn't expect anything to be that different.

One more follow-up on the price question. Have you actually gone out there with that point of price yet, and how's it going?

Again it's not a matter of going out with a price increase. Although some businesses have done that. It's really looking at that whole price waterfall, which gets into discounts and rebates, warranty, concessions, freight, shipping. You can walk all the way through this stuff. That's where we see opportunity.

So although there's going to be opportunities around price in certain businesses. This is not something where it's done through price lists. It's done through behavior in the market and a lot of the slippage on the price waterfalls. I think this is the eye opener for us. It's been the opportunity putting on those waterfalls.

Instead of pulling back discounts that you gave in '09, is that what you are saying?

No no. We're not going to do that. You might differentiate those discounts differently between your largest most profitable customers and those that aren't. That might be a great thing to do. I would tell you that we've had more ubiquitous policies around that similar businesses. There was a discipline around that we can get after that is part of 20 times plan.

Okay. The last one for me, can you just give us an update on your updated thoughts on the tax position with the IRS given the developments there?

Yes. We've pretty much plastered the walls with public disclosures about that. We filed the 8K.

In the short version, what happened was the IRS withdrew their assertion that questioning the categorization about the inter-Company data (indiscernible), re-categorizing it as all equity, creating the issue that has been disclosed since middle part of 2007. What they do is come back and asserted an alternate position that they've taken which was, again, described in our disclosures.

I will say this, the alternate position that they have asserted we feel is more defensible from a technical perspective and we still obviously feel very confident that we will prevail. I will continue to fight the cause. I think that if you look at where we are, that position is -- our position is defensible.

Thanks, guys.

Our final question will come from Ted Wheeler with Buckingham Research.

Hi. Late morning, good morning, thank you for taking my question. On the commercial equipment orders, with respect to performance contracting, when you have a performance contract award, do you automatically have that order for the equipment in the system as well or does that equipment order have a different timing to it?

Performance contract is going to be a progress billing environment where you're billing across the project to a schedule of values, and you're typically going to bill that equipment at the time you're shipping to the customer and certain times of installation. Within a project there's a curve about when the equipment actually hits, then it becomes part of the scheduled billing. It's no different there than it's been in the past.

When would it go into your commercial equipment backlog or doesn't it?

Doesn't go into the backlog until the order is placed from the project manager into the plant.

Okay. So it's not when you sign the performance contract for service that could take 18 months to execute?

That's right. Unless they've put that order into the plant immediately. The order's actually placed on the plant; in this case we're the customer, right?

Right. Right. I guess my question was getting to how much of the uptick in applied orders has to do with that process. You mentioned your --

It's too early. Yes, I'm sorry. I follow your question, Ted, now. It's too early for the largest projects that we've booked. Those don't peak until summer months, even late, I would say, early fall.

Okay. Okay. Just on the same subject matter. My recollection was commercial unitary orders tended to move ahead of applied in time sequence. It seems that that's not the case now, right?

The applied is picking up and unitary's still very weak. What's the story there?

Unitary res and light unitary, definitely, I think, follow the trends you're talking about. As you get into large unitary -- you have to remember we've got a little bit of a different business mix than a lot of our competitors. Half our equipment is large, it's commercial unitary. So when we say unitary, we mean both res and commercial.

Large unitary is very weak. This is really associated with retail and lodging as well as that traditional three to six storey office building that we may have 78% shares on in some cases relative to that product. That's where we get hit harder on that piece of it.

Didn't that piece, though, decline earlier than the larger applied, once we go back two years.

I am talking about the large applied there, and it actually light led it. Light was worse. It followed res. Large came in later, and large commercial downturn is lingering. That's still out there.

Right.

Light, frankly, has gotten a bit better.

Okay. Good. My last question was just on the after-market orders. You talked about January in a few markets. Do you have a feel for January with respect to the industrial technology after-market?

You're talking after-market services in particular?

Yes, for the compressor related products.

Yes. I don't have it in front of me, Ted, so I don't want to guess at it. It's tracking much more favorably than it had been. At one point, it had completes and after-market parts tracking it parallel. It was a 50% better; the rates were half the decline of equipment of completes in the quarter.

I will tell you from what I here about activity levels that continue to get better, so I would look at that being mid-single digits in 2010, seems to be recovering as that capacity goes back online for our customer that seems to follow that we're seeing now, deferrals being tendered to us.

Great. Thanks, very much, for the detail and taking the long calls.

Thanks, everyone. We really appreciate you joining us today. We certainly thank Herb for all of his leadership and terrific work over the last ten years. We welcome Mike and Joe and I are available for calls and questions after this call.

Ladies and gentlemen, that does conclude today's teleconference. Thank you, all, once again, for your participation.