特靈科技 (TT) 2015 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Ingersoll Rand third-quarter 2015 earnings conference call.

(Operator Instructions)

As a reminder, this conference call is being recorded. I would now like to hand the call over to Janet Pfeffer. Ma'am, you may begin.

Thank you, Tricia. Good morning and welcome to Ingersoll Rand's third-quarter 2015 conference call. We released earnings at 6:30 this morning and the release is posted on our website. We'll be broadcasting in addition to this call through our website at www.ingersollrand.com where you will also find the slide presentation that we will be using.

If you would please go to slide 2, our Safe Harbor statement. Statements made on today's call that are not historical facts are considered forward-looking and are made pursuant to the Safe Harbor provisions of federal securities law. Please see our SEC filings for a description of some of the factors that may cause actual results to vary from anticipated. This release also includes non-GAAP measures, which are explained in the financial tables which were attached to our news release this morning.

With that, let me turn it over to Mike Lamach, Chairman and CEO; and Sue Carter, Senior Vice President and CFO. Mike?

Great. Thanks, Janet. Good morning everyone and thank you for joining us today. In the third quarter we exceeded our EPS forecast, improved operating performance, and delivered profitable growth through solid execution that more than offset headwinds from the global economic environment.

Our operating income and operating margin percent were both all time records, particularly good performance in the face of a slowdown in the industrial segment and in the Asian and Latin American regions. Our team responded well to the challenges. We were able to over-deliver on our commitments, despite lower than forecasted revenues.

Adjusted earnings per share were $1.21, that's up 10% versus the third quarter of 2014. That compares to our guidance range of $1.15 to $1.19, so adjusted EPS for the quarter was $0.04 better than our guidance midpoint. Revenues were approximately $50 million lower than the midpoint of our guidance forecast, about half of that from more unfavorable FX and about half from lower volume. That translates to a couple of cents headwind versus our earnings guidance.

The tax rate was also a little higher. That was another $0.02 of headwind. These headwinds were more than compensated for by higher productivity and lower spending. As well as a slightly lower share count driving the $0.04 earnings outperformance.

Organic revenue growth was 6%, led by strength in the US and European transport and commercial HVAC businesses, as well as residential HVAC. Europe and the Middle East, excluding currency, remains strong. Ex-currency Latin America was down low single-digits, the strong results in Mexico, partially offset weakness in Brazil. Excluding currency Asia, revenues were down 3% reflecting continued weakness in China and emerging markets.

Climate organic growth was 8%. Industrial markets were weaker in the quarter. Organic revenue and industrial was down 2%. As you'll see when I get to the forecast, we adjusted our fourth quarter down slightly to reflect slower industrial markets and currency.

Organic orders in the third quarter were up 1%, impacted by tough comparisons in transport against record orders in 2014, as well as a slowdown in industrial. Commercial HVAC bookings, excluding foreign exchange, were up low single-digits and were up mid single-digits in North America. Adjusted operating margins increased 1 full percentage point, as stronger productivity and pricing combined with deflation more than offset negative currency, investments and other inflation. We repurchased about 4 million shares in the quarter and have completed our announced $250 million of share repurchase in early October.

I'll turn it over to Sue, and I'll come back to you to take you through the fourth-quarter outlook.

Thanks, Mike. Let's go to slide 4, please. Orders for the third quarter of 2015 were down 2% on a reported basis and up 3% excluding currency. On an organic basis, which excludes both currency and acquisitions, orders were up 1%. Climate orders were up 3% excluding currency.

Commercial HVAC bookings were up low single-digits and residential HVAC bookings were up mid-teens. Transport orders were down, primarily due to difficult comparisons with record 2014 bookings in North American transport and in marine. Organic orders for industrial were down 4%. Organic orders decreased by mid single-digits in air and industrial products and improved by low single-digits in Club Car.

Please go to slide 5. Here's a look at the revenue trends by segment and region. The top half of the chart shows revenue change for each segment. For the total company, third-quarter revenues were up 3% versus last year on a reported basis and up 6% on an organic basis, which excludes both foreign exchange and acquisitions.

Climate revenues increased 8% on an organic basis. Industrial revenues were down 2% organically. I'll give more color on each segment in just a few slides.

The bottom chart shows revenue change on a geographic basis as reported and organic. Organic revenues were up 7% in the Americas, up 10% in Europe, Middle East, and Africa, both led by strong HVAC and transport performance, and Asia was down 3%.

Let's go to slide 6, please. This chart shows the change in operating margin from third quarter 2014 of 13% to third quarter of 2015 which was 13.6% on a reported basis, and 14% on an adjusted basis. Volume, mix, and foreign exchange collectively were a 20 basis point headwind to operating margin versus prior year. Within that, about 40 points negative was from currency and 20 points positive from volume mix.

Price and direct material inflation contributed 60 basis points to margin, with positive price and direct material deflation. This is consistent with the expectations we gave you in July as the positive gap widens in the second half of the year from material deflation. Productivity versus other inflation was positive 90 basis points, driven by strong productivity and cost containment. Year-over-year investments and other items were 70 basis points. That breaks into three pieces.

This is the first year in which Cameron is included in our results and impacted margins by 20 basis points due to intangible amortization. In the box you can see 20 basis points of headwind from investments and 30 basis points from higher restructuring costs. In the gray box at the top of the page overall leverage on an adjusted basis was 45%. Backing out currency and acquisitions, organic leverage was 41%. That is better leverage than our July guidance, as lower revenues were more than offset by productivity and spend controls.

Let's go to slide 7, please. The Climate segment includes Trane commercial and residential HVAC, and Thermo King transport refrigeration. Total revenues for the third quarter were $2.8 billion. That's up 4% versus last year on a reported basis and up 8% ex-currency.

Third-quarter organic commercial HVAC revenues were up mid single-digits. Excluding currency, commercial HVAC revenues in North America increased by mid single-digits compared with last year and increased by high teens percentage in Europe and Middle East, and HVAC revenues in Asia were flat. The North American residential HVAC market continued an orderly transition to the new regional SEER standard.

Residential HVAC revenues were up low teens. Thermo King revenues were up low teens ex-currency, with strong gains in North America. In Europe, organic revenues were up low teens. Climate's margin performance was strong. Adjusted operating margin for Climate was 15.8% in the quarter, 150 basis points higher than the third quarter of 2014 due to productivity and volume/mix, partially offset by other inflation, currency, and higher investment spending.

Please go to slide 8. Third-quarter revenues for the industrial segment were $729 million, down 2% on a reported basis and also down 2% organically, as revenues from the Cameron acquisition offset the negative impact of currency. Air systems and services, power tools, fluid management and material management organic revenues were down mid single-digits versus last year.

Organic revenues were down low single-digits in the Americas, up low single-digits in Europe, Middle East, and Africa, and down in Asia. Third-quarter organic revenues from parts and service increased mid single-digits. Club Car revenues, excluding currency, were up high single-digits. Industrials' adjusted operating margin performance was strong in the face of volume challenges.

Adjusted operating margin was 14.4%, down 40 basis points when compared with 14.8% last year. However, the Cameron acquisition including known purchase accounting impacts and negative currency, account for 190 basis points of downward pressure on industrial margins. On lower volume, the team delivered pricing and strong productivity and cost savings initiatives to more than offset inflation and investment.

Please go to slide 9. For the third quarter, working capital as a percentage of revenue was 5.4%. The increase versus prior year is primarily inventory. This includes some incremental inventory to support Q4 air compressor shipments, and some pre-build of inventories prior to ERP system go lives, which went live in October without event.

Also the lower growth forecast puts pressure on inventory which will probably end the year higher than our prior forecast. We had good collections in the quarter and our DSO improved year over year. Our balance sheet remained very strong. We have no debt maturities this year.

We expect adjusted free cash flow in 2015 to be in the range of $950 million, which excludes the IRS payments and restructuring. That would be within a couple of points of our 100% of net income target for cash generation.

And with that I'll turn it back to Mike.

Great, thanks, Sue and please go to slide 10. North American institutional markets continued the recovery in the third quarter. There's no change to our revenue forecast there.

We also continued to see growth in commercial and industrial buildings and retrofits. We still expect mid to high single-digit growth for 2015 in North American commercial HVAC markets. The regional standards change and residential HVAC is going as planned. We expect motor bearing inner shipments for the year to be flat, up low single-digits in 2015 reflecting the pre-buy that occurred in the back part of 2014.

To round out the North American Climate segment markets, we expect North American transport market to be up double-digits in 2015, reflecting good trends in trailer, truck, and APUs for most of the year. North American industrial markets have remained fairly weak. Gulf markets are expected to be up low single-digits.

We expect Latin American, Asian, European and Middle East HVAC equipment markets in the aggregate to be up low to mid single-digits at constant currency, with flat to down after considering currency. Within those regions, Europe and the Middle East have been relatively strong for us, excluding currency. Asia had slowed since July and we now expect Asian markets to be down for the year.

We expect European transport markets to be down including FX, but up at constant currency. Industrial markets in Europe and the Middle East, Latin America, and Asia are more challenging and we expect these markets to be down for the full year. Aggregating those market backdrops we expect our reported revenues for full-year 2015 to be up about 3% versus 2014. Our prior range was 4% to 5%. So in total we're reducing the back half revenue forecast by about $140 million. As I said earlier $50 million of that happened in the third quarter.

Overall, foreign exchange will be a headwind of about 4 percentage points which reflects the deterioration of several currencies since July, when the expected impact was 3% to 4% negative. We expect acquisitions to add about 3 points for the year. Organic growth, ex-currency and acquisitions remains at the same 4% to 5% range we gave in July.

We expect Climate revenues to be up about 3% on a reported basis and approximately 6% organically. There was very little change to the Climate revenue outlook, only about $25 million or $30 million, and it's mainly a reflection of softer FX rates than in July and reflects continued weakness in China.

For the industrial segment, revenues are now forecast to be in the range of up approximately 3% on a reported basis, which compares to an anticipated growth of 6% to 7% in July. In dollar terms, the full-year industrial forecast is lower by about $120 million. It's almost all from lower volumes, the short cycle markets have not recovered, as well as allowing for some shipment push-outs on larger machines.

You might recall that our July forecast needed about 2% organic growth in industrial in the second half. The new forecast reflects about 2% contraction of organic growth in the second half in industrial. Within the industrial segment, organic revenue is now forecast to be down 1% for the full year compared to our July view of up 1% to 2%, reflecting the softness we saw in the third quarter and continued weakness in overseas markets.

For operating margins we still expect Climate margins to be in the range of 13%, identical to our prior guidance. We expect industrial adjusted margins to be up -- to be approximately 14%, also identical to our prior guidance. This higher productivity and continued spending controls are offsetting the impact of lower volume.

Please go to slide 11. Our adjusted earnings per share guidance range has been heightened to $3.69 to $3.74, an increase of 11% to 12% versus 2014. That excludes acquisition stop-up, restructuring, the Venezuelan currency devaluation and the IRS agreement. It slightly moves the midpoint for the year down by $0.02, which reflects lower revenue backdrop that we're entering the fourth quarter with, and partially offset by the cost actions that are taken and that will continue.

The range for reported or GAAP continuing EPS is $2.57 to $2.62. Fourth-quarter revenues are forecast to be up 2% to 3% on a reported basis and on an organic basis. Currency impact offsets the impact of acquisition. Adjusted fourth-quarter earnings, we share our forecast to be $0.90 to $0.95. We expect about $0.02 restructuring cost and $0.01 related to taxes for Venezuela. Including these, the reported EPS range is $0.87 to $0.92.

We've provided an EPS bridge for the fourth quarter in the appendix to give you the walk from year to year. The fourth-quarter forecast would put leverage, excluding currency and acquisition, so organic leverage, at about 75% on about 2.5 percentage points of growth. That higher than normal leverage is driven by strong productivity, material deflation in the quarter, and includes $15 million lower corporate expense than last year.

Before we go to questions you might have seen the announcement we made this morning naming Todd Wyman as the president of our compressed air systems and services business. Many of you have had the opportunity to meet Todd since he joined us six years ago. He's been instrumental in our value stream transformation and the development of the company's business operating system, which is the foundation for the company's growth and operational excellence strategies. Todd's global business experience and demonstrated success in strategy implementation makes him highly qualified to serve as the compressed air systems and services business president.

Keith Sultana was named to succeed Todd as Senior Vice President, operations and integrated supply chain for the company, including leading our operational excellence strategy. Keith joined Ingersoll Rand seven years ago and most recently served as Vice President of global procurement. Before that, Keith led the global integrated supply chain for the company's commercial heating, ventilating and air conditioning business in North America, Europe, Middle East and Africa. Before that he led the Climate solutions and industrial technology sectors.

So our commitment to our business operating system remains as strong as ever. At one point or another Keith has had direct manufacturing and supply chain responsibility for every IR business, which makes him an ideal successor to Todd. These changes reflect our commitment to premiere performance, aligning capabilities with business opportunities and market conditions, and they are consistent with our organizational leadership development plans.

So in conclusion, our strategies for growth and operational excellence have delivered a five-year trend of excellent operating leverage, margin and earnings improvement and remain the right strategies for the future. This quarter's performance was a demonstration of our focus on meeting or exceeding our commitments to you. Our focus remains to grow earnings and cash flow through further implementation of our strategies. We have already taken, and will continue to take action, to generate growth in earnings as needed to respond to market conditions.

So with that, Sue and I will be happy to take your questions.

Thank you.

(Operator Instructions)

Nigel Coe with Morgan Stanley. Your line is now open.

Good morning.

Good morning, Nigel.

I want to start off with the change of management for the industrial segments. Congratulations to Todd and Keith on the new roles. I'm just wondering, what if anything changes in terms of the marching orders for industrial tech. The reason I ask the question, Mike, is the margins there attract a lot of investor attention and I'm just wondering is that a recognition given Todd's background that perhaps there should be a sharper focus on productivity and cost containment then?

Looking at the opportunities, Nigel, and we're dead committed to the 17% and 19% operating margins that we've communicated in the past. We want to accelerate that as quickly as possible. For the segment to achieve that we've got to achieve that with the compressed air business first and foremost. The effort here would be certainly on all of the growth and operational excellence activities in the company. We see great opportunity in the value stream work in accelerating that, re-accelerating that. It's really I think a tribute to Todd's leadership but also to a commitment to being on track and getting ourselves on track for that business.

Okay, fair enough. And a quick follow-on there, Mike. The 60 bps of price cost benefit this quarter, consistent with the commentary, but I think probably a little bit better than certainly what we expected. Does that continue to get better as the hedges start to roll off on the copper and aluminum, or is this a pretty good run rate from here?

Nigel, let's think about the cost or the price in material from a longer term perspective. So what we would have as a goal, is we'd have a goal to have a spread between direct material inflation and price of about 20 to 30 basis points for the year. What we said when we talked in July was that in the second half of 2015 we would see wider spreads because the material deflation was really kicking in, which is exactly what we saw in that 60 bps spread.

But in general, we're still targeting about 30 percentage points of spread for the year and then as we look at going forward, we'd hang on to that goal of having a positive spread of 20 to 30 basis points. So I don't think that as you look forward, at least in the near-term, that 2016 commodities are going to increase. We've got about 50% of our copper for 2016 locked in. However, I think it's more realistic to think about the overall spread being 20 to 30 basis points rather than a 60 basis point spread being a new normal. I don't think that works.

Okay, great. Thanks a lot.

More than we thought really, but we kind of thought 50, it was 60. So it's pretty close to the number that we had thought.

Okay. Thanks.

Thank you. Our next question comes from the line of Jeffrey Sprague with Vertical Research. Your line is now open.

Thank you. Good morning, guys and ladies. Just quickly on Cameron and just the M&A impact, just want to check my math. It sounds like you've actually held your Cameron forecast, if I'm assuming a 3% acquisition contribution. That would imply about $380 million in revenues and back-out FRIGOBLOCK, so you end up with $340 million-ish for Cameron. It sounds like no change there. But then, Mike, you also made a comment about derisking Cameron a little bit. Can you just reconcile that or am I missing something in that math?

Great question. Let me walk through. I talked about the fact that we reduced the back half of the year in total for the company by $140 million. $50 million of that would have happened in Q3. $90 million relating to Q4.

Also instead of that, there was change to Climate, really let's call it $30 million, leaving $60 million in the industrial businesses. We think about the Cameron piece of large machines and we took a $20 million to $25 million view of risk on that, saying that we know of some instances and perhaps we'll know of some more delays for oftentimes customer acceptance or readiness on those sites, so think about $20 million, $25 million being associated with big machines. The balance of that could be split 50/50 between all of what the short cycle replenishment is in industrial and FX.

So if you look at sort of the Cameron piece of this on a large machine exposure, $20 million, $25 million. Then if you look at just short cycle recovery, some of that would be plant [air] for (inaudible) Legacy in Cameron, it would be the normal smaller plant there. We're not seeing the order rates returning there. We're seeing some slowdown with capital spending from industrial customers in Q3 and Q4 and so there's a bit of that in there as well.

Okay, and then just shifting gears on TK, orders down on tough comps but the comps are going to stay tough, right, in North America, in particular in trailer. How do you see things playing out? Should we still be thinking about a double-digit type decline or more in trailer in North America in 2016?

Jeff, let me give that a shot. You're right, as we look at the order rates for North America for trailer in the third quarter, they declined. Again we expected that. We talked about some of those orders being roughly at peak in the second quarter and it really is a tough compare to 2014.

So when we look at the fourth quarter, first I'll take fourth quarter, we expect the trailer orders again to show negative year-over-year comparisons, again, based on really strong 2014, actually record order levels last year. And so what we're looking at is the tough comparisons on TK in total, orders for the third quarter in overseas markets were actually down and ex-currency were roughly flat.

But you also asked a question about 2016. If we look at what's out there in terms of act data, so we're not talking about our forecast but we're looking at act data, we still are seeing forecasts for that to come down in the ranges of probably some of those double digits. But we're closely assessing the markets, especially in trailer and in looking at the record volumes. So, not really a precise answer, but the tough comps are really the big part of the story and in 2016, act doesn't see much change from their prior outlooks.

Jeff, if you took that 10% to 15% as sort of the market for North American trailer, recognize it's a little bit less than 25% of our business, we're probably going to see pretty good markets in Europe, the Middle East. We're seeing probably good markets for marine, rail, bus, and for our air, refrigeration businesses.

So we talked about the scenario last time, that a 10% to 15% decline in North American trailer is something we think we could still grow margins in the TK business and potentially actually grow the top line. That's not to be concluded until we finalize a plan.

Thank you.

Thank you. Our next question comes from the line of Steve Winoker with Bernstein. Your line is now open.

Thanks, and good morning, all. Just to clarify that answer for Jeff, on the Cameron deal, you'd originally promised $0.08 to $0.10 of gross accretion for 2015. Bottom line, what number it looks like you're going to achieve this year on that?

Cash accretion is about $0.08, maybe a little bit better, but about $0.08.

Okay, great. On the restocking impact in resi and destocking across industrial, what kind of impact do you think that's having on the business?

Residential is lumpy. So that's hard for a quarter-to-quarter compare with all that's happened with the change in SEER regulations. Our global residential business was up mid-teens, but our North American residential bookings were up high-teens. I wouldn't put a lot of stock into the booking numbers and just some of the anomalies from quarter to quarter.

The industrial restocking is just more of an indication of slowing industrial markets and the fact that companies like ours are probably pulling in a bit on CapEx. We see our service businesses growing. One thing you see in a typically mild pullback in either commercial or industrial space is the service business should grow, and our service business grew mid single-digits in industrial which is pretty good performance.

Just following up your point about 30 basis points ongoing price versus raws, if I think about same growth rate maybe next year as this year for the overall business, if that were to be the case, do you think you can hold these kinds of mid 40s, organic incrementals?

I think we'd look at really more along the lines of what we've said longer-term, which is we're more comfortable with looking at incrementals that are at our gross margin levels as opposed to trying to project what happened to all of those. I understand the comment on deflation and the productivity that we've had, but I think there's going to be some other areas that are going to have tougher comps in 2016 going forward. So I think the price spread of 20 to 30 bps and our incremental leverage being at gross margin levels are probably better longer-term ways of just thinking about the business.

Okay, thanks, Sue.

Thank you. Our next question comes from the line of Deane Dray with RBC Capital Markets. Your line is now open.

Thank you. Good morning, everyone. I was hoping Sue could clarify the comment on expectations for -- did you say inventory increasing in the fourth quarter and its impact on your free cash flow conversion?

Right. So I'm hoping that our inventory does not increase in the fourth quarter. What I meant and hopefully what I said is right now our inventory levels are higher than what we would have seen a year ago. Part of that is because of the buildup of the air compressor inventory for Q4 shipment, part of that is the pre-build for the ERP go live and some other impacts from actually the revenue decreasing.

But what I expect to see in the fourth quarter is I expect to see the inventory come down, but the comment is that I don't really expect it to get back to the previous levels, so a year ago levels at the end of 2015. So we'll continue to work all of that off. It doesn't mean it's an issue. It just means it's going to be slightly heavier.

What we've done, to answer your question on a free cash flow basis, is that we did -- our original range was $950 million to $1 billion. We said roughly $950 million at this point in time, and what we're doing from a free cash flow perspective is everything that you might expect us to do, which is we're overdriving performance on receivables. We are looking at all of the things that make sense in terms of being tight on all the other elements of free cash flow to make up for the fact that we've got a little more inventory than what we had a year ago.

So I don't think any of this is an issue. I think our free cash flow being at 98% of sort of projected net income is right in line with where we'd like it to be, so I don't think it's a problem. I think it's just going to be a little higher than it was a year ago.

I appreciate that clarity. And Mike, I was hoping you could comment on the European strength in Climate. Did that surprise you at all? How much is mix a factor there and it looks like you could be getting some share gains.

It's been surprising us for a couple of years in terms of the success that I think we've had there. As I said in the past, we've got an excellent team leading the business and a lot of new products and services being launched into the marketplace. Continued good performance there.

Thank you.

Thank you. Our next question comes from the line of Julian Mitchell with Credit Suisse. Your line is now open.

Thank you. Just a question on industrial. I think you're guiding for Q4 organically to be down about the same degree in revenues as Q3, so maybe down about 2% year on year. But the orders progression has got worse Q3 versus Q2, and the organic sales hurdle is higher in Q4. Maybe just confirm if that's really the case and maybe talk a little bit about how you've seen industrial demand trending kind of within the quarter and in the last couple of months specifically.

The widest R&O Julian that we have I think is really in China, which really runs a pretty wide range of worst case, best case. We're taking something on a more conservative range in China at this point and that's really the wildcard. The balance of it is really just sort of the book and turn we know of and some conservative views now on restocking to some of the stock businesses.

And I would say, Julian, that you're right, when we talked in July we had seen some short cycle markets recover in June, some but not all certainly. And that re-acceleration didn't continue in the third quarter as we had anticipated. So we did lower our industrial organic growth outlook for the second half from plus 2% to minus 2%. So you're absolutely right.

Got it. But I guess you're not expecting the decline to get worse in Q4, even though you have a tougher comp in industrial?

We had a little bit of a surprise favorability in bookings in Latin America in the compressor business, a bit of a surprise. And again, we think we've taken a conservative view and China team has a roadmap on some larger orders that could close. But I think we've got this tackled with the $90 million in the back half, $60 million of it really being attributed -- sorry, the fourth quarter, $90 million for the company, $60 million in industrial, we think we've got it covered here with what we know today.

Thanks. And then just a quick follow-up on Trane in Asia. I think obviously the trends even back in July were pretty unsteady in China. Maybe just talk a little bit about how you've seen the order intake and the backlog moving there.

Let's just kind of talk about China in general. Obviously economic growth rate significantly below the historic rates with the government attempting to rebalance the economy and all of those different pieces. Some of that is not smooth. Some of it's lumpy. So some of the comparisons get a little volatile if you just go from quarter to quarter.

If we look at HVAC bookings in China for the quarter, they were actually up low single-digits versus last year. For the quarter, HVAC revenues in China are expected -- or I'm sorry, for fourth quarter, the HVAC revenues in China are expected to be down low single-digits, and part of that is applied systems and the growth there being more than offset by lower unitary revenues and currency. There's a lot of different pieces that are moving around. If we just looked at nonresidential construction market starts in the fourth quarter of last year, some of that continued into the second half of 2015. Some of the areas of strength or verticals where we do see some growth would be data centers, healthcare and mixed development opportunities.

Good news there, Julian, was the fourth quarter positive bookings in HVAC in China.

Great. Thank you.

Thank you. Our next question comes from the line of Shannon O'Callaghan with UBS. Your line is now open.

Good morning. Mike or Sue, just on the -- to clarify the leverage point in the fourth quarter, I think you said corporate going down $15 million to $60 million, is there some other maybe offset below the line in other income or anything that we should be aware of? It just seems like I end up a little high if corporate goes down $15 million.

So when you think about the fourth quarter leverage and the different pieces, in the spot where you're going to look at, at what's happening is if organic growth is going to be in the range of 2% to 3%, so you've got $75 million to $80 million of revenue. If you've got productivity and direct material inflation with still continuing to get price, and if those are the primary drivers of productivity in the fourth quarter and you have lower corporate to your point, the math does work out to be in the 75% to 80% range for the fourth quarter.

Shannon, another way to look at it is $75 million in revenue at the midpoint. $40 million NOI on that. Take $15 million off that for corporate. Now you're talking about really $25 million on $75 million. Got 33% leverage. Look at the price deflation spread. Look at the productivity of other inflation spread. It's really a doable number.

Okay. I know your other line moves around; there's nothing different going on there. It's been bouncing all over the place, tough to know how to model that, it's mainly currency. Do you have anything moving significantly down the other line?

No, so the fourth quarter should be relatively flat, so not really a lot of movement there that we're looking at.

Just on the commercial HVAC bookings up mid single-digits in the Americas, do you have the sort of North America split of that, I think you used to give, and is there any parts of North America that you see getting better or worse?

Applied is trending as we said, applied mid single, it's the institutional piece of that large unitary that applies to institutional is that -- the larger unitary is doing really well. The open quote backlog sort of matches what the booking trends look like, which gives us some sense that -- if you think about open quote log predating bookings by three to six months, the rates stay fairly consistent going into 2016.

So I think that it's shaping up like we thought, which is this mid single-digit institutional recovery that should last a few years. Dodge data still is quite a bit more aggressive than that. You're showing institutional put in place, 2016 versus 2015, up 14%, starts up 10%. But I think as you well know it's historically been fairly high and comes down throughout the year.

Okay, great. Thanks a lot.

You're welcome.

Thank you. Our next question comes from the line of Steve Tusa with JPMorgan. Your line is now open.

Hey guys, thanks for taking the question. Just following up on Shannon's question, can you just give us kind of the approximate margins? There's some rounding dynamics here and you guys have some squiggly lines next to the numbers annually. So I'm just having a little bit of trouble again getting low enough for the fourth quarter. Can you just give us a more rough approximation of what the 4Q is for the segments, margin-wise?

So if we're looking at the total year for industrial being in the range of 13% or roughly 14%, so you're right, we've got a little bit of a squiggle in there. What that would imply for the fourth quarter on industrial is margins in sort of the 15.5%-ish type of range. And part of that gets driven by the compressor shipments in the fourth quarter as well as continued productivity and lower inflationary-type environment.

Okay, and for Climate, I think we're back to something around 13.5%? Is that about right?

Climate with the sort of 13% that we're looking at for the full year would be, if you backed into a Climate midpoint, would be just a smidge under the 13% range for the fourth quarter.

Okay. That makes more sense. And just last question, just on the resi dynamics, what will mix contribute this year? I don't think you guys had great mix in the second quarter, like maybe some others did. There may be different timing dynamics around how much 14 SEER you're now selling. How much of that 14 SEER transition is booked this year and then how much is kind of still yet to come for next year?

We've had some negative mix, Steve, in the year with 14 SEER which works itself out this year, but we that think generally 14 is accretive to 13. We're seeing really good margin expansion in the res business. So in spite of the mix down of 14, for us, good absorption, good expansion. And it works itself through in 2015.

And then for 2016 is there still some benefit to come there?

I don't think we've got the issue of mixing down in 2016. There could be a quarter, four, five months, but you have to think about the dynamics of the change this year in terms of stocking 13 SEER but for the most part, no, I think we should be having a pretty clean year next year in terms of mix.

Thank you. Our next question comes from the line of Robert McCarthy with Stifel. Your line is now open.

Good morning, everyone. I guess the first question I would have is just taking into account some of your comments around the state of the US non-resi and the limited visibility on the industrial side, how do you think about just directionally about 2016 in terms of EPS growth and what can you provide or what can you provide in addition maybe for CapEx, or you have -- provide us on the incremental margin side? What can you provide about 2016, how we should be thinking about it?

First of all, remember, we'll do this in February so I'll give you some general senses of where things are going. Before I do that, step back for a minute and we look at 75% of the Company as being the Climate segment. Of that, only 60% of the Company is HVAC and more than 60% of that is in North America. So you've got really 40% of the Company with pretty strong growth dynamics going into 2016.

I think HVAC in Europe, Eastern Europe, even potentially the Middle East will be growth organically for us, probably not at the same rate of course as North America, but you've got that growing. In essence, a large part of the business is growing for us.

We think about industrial, look, I think that Asia, Latin America are going to continue to be a bit of a struggle and maybe some currency headwind coming at us. But not -- we see that even with low growth next year we'll expand margins nicely. I'm not going to give you an EPS number today, but we certainly feel like it's an opportunity with the pockets we're seeing of growth in 2016 to grow the company.

Okay, just one follow-up. In terms of capital allocation and then just reinvestment in the business given the prevailing environment, is there any change or nuance of the margin in terms of M&A, or other forms of capital redeployment or internal re-investment?

No, Robert, when we look at it, we expect to continue the balanced capital allocation that we've got with investments in our businesses. We can expect to continue having a strong dividend payout, so in the 30% to 35% range, we'll continue to at a minimum offset dilution with share repurchase activities.

And then the remainder of it will basically continue to toggle between value accretive M&A and additional share repurchase and just evaluate what makes the most sense at any given point in time. Now, you had also asked about CapEx and so generally speaking, our CapEx is usually in the range of about $250 million, which is roughly equal to depreciation and we don't expect that to change going forward either.

The CapEx investments are a number that we can work with during the year, depending on what we see in terms of the environment. So there is some flexibility for us to spend less if we need to, to help bridge some of the EPS commitments that we'll make.

Thanks for your time.

Thank you. Our next question comes from the line of Josh Pokrzywinski with Buckingham Research. Your line is now open.

Hi. Good morning.

Hey, Josh.

Just a couple questions. First on Cameron. Obviously backlog is typically weighted to the fourth quarter. But can you give us maybe an indication how order trends and visibility or coverage in the next year looks maybe versus what normal seasonality should look like there. Obviously haven't [known] to the year yet, but just any color on orders would be helpful.

Sure, Josh. One of the interesting things about the history and what happens in that engineered compressor business is that not only are shipments back half loaded, but generally orders in the large engineered compressors are also back half loaded. So we're seeing realtime what's happening in the different places in the market. So let me give you a little color on what I think we're seeing and how that translates into what we see for 2016.

So in general you're going to look at the space being negatively impacted by all of the oil and gas majors are cutting capital 20% to 30%. There's industry consolidation, EPC activity is slowed and so when you think about projects, there's probably in general fewer projects, same number of competitors which means you need to be really sharp, you need to be really focused and really work at the orders. Now having said that, if I break down the different pieces of the business, so on processed gas, which is roughly a quarter of the business, there's still some growth from the natural gas side of things and LNG. There are some Middle East project delays. However, you've got petrochemical doing okay.

Power-Gen, particularly in Europe, being an area where there's some projects and things that we can look at. So when we think about the processed gas, one of the things that you can start to think about is on the chemical side or petrochemicals is, does the lower gas price give you a lower feed stock price and does it change some of those dynamics? I don't know. But it's still a tough environment with, as I said, fewer projects and some things happening.

On engineered air, so another quarter of the business, you've still got air separation particularly in the China market. That to be honest I don't see changing any time soon. There's going to be some activity, but there's going to be a lot lower activity. And if you looked at just what's happening from industrial gas businesses and activity, you'd see lower activity in the first half versus 2014 and 2015, and I'm not sure that that changes. And again, that's an industry looking at projects where we might take place with some of that engineered air product with, again, air separation. You've got over capacity, lower steel demand. And all of that.

On plant air, which is the book and turn piece of the business, it's roughly flat versus 2014. There's still some good markets out there with auto, food, and beverage.

Europe is a little slower on that side and Asia is down. Then the aftermarket for the business is where opportunities still exist. So in general you've got softer markets, still some projects moving forward, but we're in the period when a lot of the orders take place and so we've got our eye on what happens in 2016 with all the different pieces.

Synergy-wise too, Josh, we're really on track there with an example just sort of the plant air, the revenue synergies, the cost synergies. If anything over the last few months, we've gotten sort of even more conviction around the opportunity for the engineering, supply chain, and manufacturing synergies that could exist in the business.

So I think that we'll continue to make the business accretive and in 2016 we'll make sure that if we've got the weakness that Sue is talking about that we've got a response to keep the margins at or better than where they were this year. We have a roadmap to do that.

I think the bottom line of all of that is it's still a great business and it's still great products for us and in spite of all of the things I've said about the market, it's accretive in 2015 and we're getting the synergies. So more to come on this one.

That's great detail. If I could just ask a follow-up on TK. I've heard that some of the trailer guys have opened up the order books, maybe a month or so early than they normally would for the following year. Is that something you guys have seen and is any of the strength in North America this quarter maybe a month or so pull ahead from what you might normally have seasonally?

It's very spotty on which customers open up their order books and whose customers they are. You can take the top 10 customers, they're going to order at different points in time. Yes, I'd say in the third quarter, you had some customers open up their order books and we've seen the same thing happen in the past where there's a little bit of an anomaly between who is ordering.

We're aware of who has ordered and who is left to order. I don't think you're seeing a lot of dynamic shift in that. But you'll see differences in book rates and revenue rates depending on when that occurs. Some of these guys will buy 1,000, 2,000 to 3,000 units. It makes a difference when you're looking at a 6,000 to 8,000 unit month, which is what we've been seeing the last few months.

Got you. All right. Appreciate it. Thank you.

Thank you. Our next question comes from the line of Andrew Obin with Bank of America Merrill Lynch. Your line is now open.

Good morning. Nice quarter in this doom and gloom environment. Just a question. There was some debate inside the Company about how to look at the value stream process, and at the analyst day you have indicated that you are re-assessing your approach because you've sort of touched a lot of low hanging fruit. And then we seem to have had a pause in execution last quarter and this quarter, operating leverage just seemed to have come through very nicely. Can you describe to us what internal operating changes you've been implementing over the past six months to address this next level of operating improvement?

A lot, I'm not sure I'll cover it here. It will be a great discussion that we could have when we're together for our review this spring in general. We've used these product teams as a basis to expand the effort across the Company. We've continued to now touch really all of the business with our value streams. Sourcing has become, I think, mature across the Company. We have got really good productivity the last three quarters really in general.

If you look past Q2 and kind of look at the last three quarters, we're seeing productivity accelerate. It's never really that linear. I know we'd all like for it to be, but it's not. We will have projects and ideas that at a certain point in time hit in a quarter and those make a difference.

Higher volumes would make even a more positive difference of course, so we're doing this all with actually quite sort of low volumes in some of our businesses. We're excited if volumes do return, we'd see even better productivity on the changes that we've made. So, look, I think that we haven't really changed the operating system in five years. We've just really looked across this product growth teams and now have touched most or all the company in one way, shape, or form.

Just a follow-up question. I apologize if you've answered it already. Can you comment on cadence of industrial orders throughout the quarter?

Cadence throughout the quarter, there really weren't any sort of high spots on the quarter to say that they were choppy. They were sort of low in the entire quarter. We had pretty good growth in our fluid management business obviously which was a highlight for us, kind of a double-digit grower there. It's a good sign. Material handling, which is really our only oil exposed business had significant declines. We're off 50% in bookings in that business from prior year. Inside industrial when you move the compressed air business out of the way and you look at some of the smaller businesses, there's some high and low points, but generally speaking, pretty explainable if you look at material handling as a good example of that.

Terrific. Thank you very much.

Thank you. Our next question comes from the line of Joe Ritchie with Goldman Sachs. Your line is now open.

Thanks. Good morning.

Hi, Joe.

So quick clarification, Mike. You mentioned earlier the Dodge data on the institutional side and the expectations for next year, but there's been a lot of noise in the data especially on the commercial side. I'm just curious what, if anything, you're seeing and what you're making of that noise on the unitary side of your business?

Well, I think the large unitary business continues to do well because there's also a lot of large unitary that's put into more of the institutional environment. So that continues. Actually, the commercial activity has been fairly strong.

If you've split up commercial and industrial, industrial has probably been just a little bit weaker in North America. But not a bad environment, frankly, at all for us. So we continue to think it's a pretty good North America market for both institutional and commercial and industrial. In terms of strength going forward, it's really institutional than commercial, and then industrial HVAC kind of trending in that direction.

That's helpful. Maybe following up on that, how do you think about mix then as you head into next year? Clearly we've talked a little bit about some North America headwinds on TK, but some of the mix headwinds on resi should subside. How are you guys thinking about mix, particularly in light of the Climate margin target of 13% to 14% for 2016?

We're on track, in a nutshell, Joe. TK still gives us really good volumes from a profitability perspective. We're working with pretty high volumes across the board even though the year-over-year decrease in the market will be there. We've got plenty of gas left there in growth parts of the business that we didn't have last time around. We feel pretty good about being able to hold their head up on the TK business.

As you look at a Climate, great expansion in margins in the res business. I said before, I'll say again, mid-teens, mid-teens plus EBITDA. The commercial business, particularly in Europe is doing well. And we're hitting some critical mass there that I think will begin to contribute more to that margin across the business.

In general, North America just does a really good job in terms of share and consistent margin expansion there. So feel pretty good about that. The wildcards are really Latin America and Asia for us as it relates to the HVAC businesses. Here we talk about pricing in China but it's not sort of an environment that's impossible. It's just more difficult for us, so we're persevering in China and again, we feel good at least about the quarter, bookings going in the right direction. Would love to see the next couple quarters look the same way before I'd feel more constructive about China, about Asia in general.

Okay, thanks. I'll get back in queue.

Thank you. I would now like to turn the call back to Janet Pfeffer for any closing remarks.

Thank you. Thank you, everyone. Joe and I will be around if you have any follow-up questions and have a good day.

Ladies and gentlemen, thank you for participating in today's conference. That does conclude the call. You may all disconnect. Everyone have a great day.