Wesco International Inc (WCC) 2008 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Quarter Three 2008 WESCO International Earnings Conference Call. My name is Nora and I'll be your coordinator for today. (OPERATOR INSTRUCTIONS.) I would now like to turn the presentation over to your host for today's call, Mr. Dan Brailer, Vice President and Treasurer of WESCO. Please proceed, sir.

Thank you, Nora. Good morning, ladies and gentlemen. Thank you for joining us for WESCO International's conference call to review the third quarter 2008 financial results.

This morning participating in the earnings conference call are Mr. Roy Haley, WESCO's Chairman and Chief Executive Officer; Mr. John Engel, Senior Vice President and Chief Operation Officer; and Mr. Steve Van Oss, WESCO's Senior Vice President and Chief Financial and Administrative Officer. Means to access this conference call via webcast was disclosed in the press release and was posted on our corporate website. Replays of this conference call will be archived and available for seven days.

This conference call may include forward-looking statements and, therefore, actual results may differ materially from expectations. For additional information on WESCO International, please refer to the Company's annual report on Form 10-K for the fiscal year ended December 31, 2007, including the risk factors described therein, as well as other reports filed with the SEC.

The following presentation may also include a discussion of certain non-GAAP financial measures. Information required by Regulation G with respect to such non-GAAP financial measures can be obtained via WESCO's website at www.wesco.com.

I would now like to turn the conference call over to Mr. Roy Haley.

Good morning to all and thank you for joining this morning's earnings call. Wow, what an amazing quarter this has been. It's just amazing, but I'm glad to say that it's been a good quarter for WESCO. Despite strikes and plant closings, hurricanes and financial and commodity market gyrations, most of our end markets have held up well and WESCO achieved good sales results, while also maintaining our record backlog of firm but unscheduled--rather, firm but scheduled future shipments.

Over the last five or six years, our Company has become stronger, and I believe that we have further strengthened the organization during this third quarter. As you know, we have a blue-chip customer base that is highly diversified, and we believe that the deep customer relationships that we develop with large organizations leads to increased sales and service opportunities and increased stability, over the long term, for our business. We have been continuously successful in competing for long-term, preferred agreements with Fortune 1000 companies, and this quarter we added to our roster.

Also during the quarter and for the past year we had excellent free cash flow, which I believe demonstrates the strength and quality of our underlying operations and earnings stream.

We're realistic and cognizant of multiple data points and forecasts that point to declining markets, but the industries that we serve are large and fragmented, and we're approaching every day as an opportunity to secure additional business and take actions that can improve the long-term prospects for WESCO.

Steve will now take us through the financial results for the quarter.

Thank you, Roy. Good morning. I'd like to provide a few comments to put the quarter's performance into context. First, we produced our best-ever top-line performance and our second-best-ever earnings per share result. Our cost controls were effective as we reduced our overall employment levels during the quarter while continuing to add to our sales force.

Working capital performance improved over year end and the third quarter of last year.

We discussed, last quarter, the pressure exerted on our gross margins due to a significant run-up of supplier price increases and the time required to work the increases through the channel. We did not see the absolute degree of improvement we would have liked in the quarter, but we did make progress over the June rate. With the recent drop-off in commodity prices, we are seeing a reduction in supplier price increases and we are, in fact, experiencing gross margin expansion in October month-to-date.

Our SG&A expense as a percent of sales was consistent with last year's third quarter and this year's second quarter after adjusting for swings in foreign exchange gains and losses.

On a consolidated basis, earnings per share for the third quarter of 2008 were $1.53 versus $1.54 last year. Normalizing for tax rate differences and the impact of foreign exchange in both quarters, the comparable 2007 third quarter earnings per share would be $1.36.

Our share repurchase program was designed to capitalize on our earnings and strong free cash flow and deliver sustainable earnings accretion. Since February 2007, when we announced the first of two $400 million share repurchase authorizations, we have repurchased 9.1 million shares, or 18% of our outstanding shares, for a total of $506 million. The earnings per share impact of this program on the third quarter of 2008 results was favorable by $0.13, despite incurring additional debt and interest expense associated with the share repurchases.

Given the heightened sensitivity to liquidity, debt and cash availability, I would like to review the positive characteristics of WESCO's free cash flow generation throughout a business cycle. With our low level of capital expenditures and good working capital performance, WESCO is able to generate more than enough free cash flow to fund expansion needs during the growth phase of the business cycle, and we generate an even higher level of free cash flow during an economic down cycle.

WESCO has historically generated 90% of net income as free cash flow when significantly growing the top line. With more modest top-line growth during the last three quarters, free cash flow was approximately 115% of net income.

Favorable cash flow trends will continue during the fourth quarter. WESCO's cash flow characteristics result in a very durable business model, with ample liquidity in times of economic contraction.

Now for a more detailed look at our third quarter results. As discussed earlier, we posted company-best-ever quarter sales results. Adjusting for LADD, consolidated sales was up 7% over last year's third quarter, driven by sales gains in our non-residential construction and utility end markets. Gains in utility followed the growth trend established last quarter and were aided by hurricane activity. Manufactured housing and recreational vehicle end markets remain depressed, given tight credit and the continued weakness in residential construction.

Sales per workday increased sequentially throughout the quarter and were at record levels in September. Adjusting for price realization, an additional workday, acquisitions, and the positive impact of foreign exchange, our sales were up approximately 2% for the quarter.

Backlog, which consists of firm orders for future delivery, was well balanced and increased more than 17% over last year's third quarter and 16% over year end.

Consolidated gross margins, at 19.4%, were down 90 basis points from last year and 10 basis points from this year's second quarter. LADD and mix accounted for approximately 40 of the 90 basis points decline from last year. Sequentially, mix was not a significant factor.

SG&A expense as a percent of sales was flat sequentially and, adjusted for foreign exchange gains and losses, was flat quarter-over-quarter. We are continuing to invest in marketing programs and sales personnel, which we feel will provide for sales growth and market share gains as we move forward. The cost associated with the sales force expansion was approximately $3 million in the quarter.

Productivity gains were achieved as we have reduced our overall employment levels in each of the last two quarters. We will continue to drive our cost-containment programs, and for the remainder of the year we are targeting a net reduction of personnel from current levels, while still maintaining a bias towards sales additions.

Strong net income and improvements in working capital performance absorbed the cash requirements associated with the higher sales volume and resulted in free cash flow of $76 million. Free cash flow was utilized to reduce debt, net of cash, by $56 million and fund $14 million of share repurchases during the quarter, while reducing financial leverage.

Our all-in average borrowing costs are low, at approximately 3.6%, and, along with good working capital performance, have allowed the Company to reduce interest expense $400,000 sequentially and by $5.5 million from last year's third quarter.

With liquidity at approximately $350 million and strong free cash flow projected, we continue to have ample capacity to fund multiple growth initiatives while maintaining targeted levels of leverage. In the near term, our primary focus will be on building liquidity and debt reduction.

At this time, John Engel, our Chief Operating Officer, will provide additional commentary on our end markets and initiatives we are undertaking to strengthen our organic growth. John?

Thanks, Steve, and good morning. This morning I'll be providing a performance summary for each of our major end markets, but let me first start out with a few key highlights.

Construction sales were up 7%, industrial sales were up 6% and utility sales were up 9% versus the third quarter of last year, comprising an overall WESCO consolidated sales growth rate of 7% without LADD. The net impact of Hurricanes Ike and Gustav was in the range of $15 million to $17 million and equates to 1 percentage point of growth.

Now, beginning with construction, we saw positive momentum in the quarter with sales to construction customers up 7% versus last year. All geographic regions posted positive sales growth, and this is despite a 22% decline in sales to manufactured structures customers.

Backlog remained strong in the quarter and is up 16% versus year end and is up 17% versus the third quarter of last year.

Despite forecasts of a decline in construction starts continuing into '09 and recent reports of project delays and cancellations in some markets, non-residential construction continues to present project opportunities across the major market segments that WESCO serves. We have seen bidding activity begin to slow in certain markets and some evidence of project delays, but our backlog remains at record levels and we have not experienced any major project cancellations.

While most construction segments are forecasted to contract in '09, the good news is that the construction industry is very large, and with our size and capabilities we have major opportunities to increase our participation rate in the available business. As evidenced in our results, we're gaining traction with national and regional contractors, including engineering procurement construction companies, by applying our national accounts model to service their project management and supply chain needs across their many locations.

And finally, we're continuing our capacity expansion program to selectively add sales personnel and increase our sales coverage in attractive growth verticals and geographies, while driving additional penetrations at new and existing customers.

We saw growth in the third quarter with data communication sales as well, growing low single digits driven by strong sales to government and enterprise customers. This was partially offset by continued softness in low-voltage audiovisual products. Backlog grew in the quarter and is up double digits versus year end. Our sales and marketing initiatives remain focused on combining CSE's expertise in network infrastructure, data communications, and Internet technology-based physical security products with WESCO's electrical and power capabilities, our geographic footprint, and our national accounts position to provide solutions for construction and industrial customers.

We're making progress, and we're encouraged by third quarter wins in multiple industries, including government, health care, energy producing, and financial service.

Our long-term demand outlook is for increasing bandwidth demand in commercial, government, residential, (inaudible) applications as customers continue to migrate to higher capacity network architectures, invest in data centers, and improve the security of their facilities and IT networks.

Now moving to industrial. Sales to our national accounts and integrated supply customers showed positive growth in the quarter and were up 6%. These activity levels remain high and the national account opportunity pipeline expanded to an all-time record level in the third quarter. Our national accounts business model continues to demonstrate its effectiveness in the quarter with major customer renewals and two new Fortune 500 customer wins. We've maintained our 100% contract renewal rate in 2008 and currently have a majority of Fortune 500 companies as our national account customers.

We're prioritizing our customer-facing initiatives to provide value-added services and sell the complete WESCO portfolio of products to serve our customers' needs in electrical and non-electrical MRO, capital projects, and OEM materials and value-added assemblies.

Now shifting to utility. In the third quarter sales to utility customers showed positive momentum for the second consecutive quarter. Overall utility sales were up 9% versus Q3 of last year. Consistent with last quarter, sales to investor-owned utilities and utility contractors were up double digits, offset by declines with public power customers.

Overall utility spending continues, despite the residential construction downturn. Our customers are prioritizing their capital spend towards transmission-related and alternative energy projects, which are primarily being served direct by manufacturers. The utility market remains active with bid requests and interest in our national account and integrated supply capabilities remains high. We anticipate that end market levels in the fourth quarter of 2008 will be down sequentially, consistent with the typical end-of-the-year seasonality. We're confident that our share in this market is steady, and we remain well positioned to capitalize on future investment in the nation's electric power grid infrastructure.

So in summary, we're encouraged by our improved sales momentum in the first three quarters of 2008 and are continuing to make the necessary adjustments, including more aggressive sales execution and cost management actions. Despite an economy that has weakened, our emphasis and focus as we close out the year remains on sales and marketing execution while keeping tight controls on our overall cost structure. Contingency plans have been developed and will be executed as required in response to WESCO's performance and end market activity levels in 2009. We remain confident in our ability to execute in a tougher economic environment.

Now back to Steve.

Thanks, John. A couple of comments on general pricing, and then we'll look at the fourth quarter. Our best estimate of the overall price realization for the quarter is in the range of 3% of sales, of which over half was comprised of general price increases, with the remainder attributable to commodity-based products. Looking ahead, we expect that lower commodity prices will, if maintained, work their way through the market, and the overall effect of pricing will reverse itself. We would expect to see a negative impact on sales in the fourth quarter and on a comparable basis to the first nine months of 2009 if copper prices remain at current levels.

We have an established policy of marking up our inventory to current market levels, and we are generally able to sell through commodity price declines. We do not anticipate taking an inventory write-down based on the current price levels, although margin levels on these products will be compressed as we sell through the higher-priced inventory.

So let's look at the remainder of 2008 now. Typically, our seasonality is such that the first quarter has the least sales. Second and third quarters are similar and the strongest, and the fourth quarter is down sequentially from the third quarter. Past seasonality indicates approximately a 5% sequential impact on the fourth quarter. At this time, the consensus view of most economists is that the overall market activity levels will be lower for the remainder of the year and throughout 2009. We are confident that our sales and marketing initiatives and our strong market position will enable our Company to perform better in the end markets as we maintain or improve current positions and grow with new customers.

For the fourth quarter, even with seasonality, lower end market activity, and declining commodity prices, we expect to see sales growth rates quarter over quarter in the range of 1.5% to 2.5% after adjusting for LADD joint venture accounting. LADD sales were approximately $24 million in the fourth quarter of 2007.

Gross margin percentage should show a slight improvement sequentially. Operating margins are expected to be in the range of 5.4% to 5.8%, given the seasonal impact of lower sales volume on operating leverage, the anticipated impact of declining commodity prices, and lower seasonal joint venture income.

Our tax planning activities have been very effective. At the present time, we anticipate that the 2008 full year tax rate will be around 30%. Working capital productivity should be maintained, and free cash flow over the next several quarters will be directed at debt reduction and WESCO share purchases. Based on share repurchases to date, share count for the fourth quarter of 2008 is anticipated to be approximately 43 million shares.

In summary, we had a strong quarter and are encouraged by our progress on sales initiatives and are working hard on the margin front. We are looking forward to setting record-breaking performance and best-ever earnings per share for the year. Our view for the remainder of 2008 calls for more aggressive actions on the sales front and will require us to continue to capitalize on sales opportunities to offset macro end market negatives. We are confident in our ability to execute in a tougher environment and expect to grow our core business at an above-market rate.

At this point, Nora, can you please open the session up for a question-and-answer period?

Thank you. (OPERATOR INSTRUCTIONS.) And your first question comes from the line of Matt Duncan of Stephens, Incorporated. Please proceed.

Good morning, guys, and congrats on a good quarter.

Thank you.

The first question I've got, maybe John, this probably is for you. Can you talk a little bit about what you guys are seeing and hearing from your customers in your various end markets, so looking at construction and industrial utilities and the data. Maybe if you could expand a little bit on what your customers are saying and maybe have their purchasing attitudes changed any with the negative headlines we're seeing and the weakness we're starting to see here in October?

Okay, Matt. Good morning. First, let me say based on our results and through the quarter, backlog is being maintained at record levels. Our sales per workday strengthened through the quarter, and so far in October, our results are consistent with September. We've not seen any of the--let's call it the rhetoric--that we're reading in every public piece of communication that's out in the market. We're not seeing that effect in our results as of yet. So we're actually encouraged by the progress we're making in terms of delivering value to our customers.

If you look at the various segments, our industrial business held up very well. We're growing above 5%. We've been in the upper-single-digit range. That momentum's holding well. We're maintaining our contract renewal rate, and I would highlight it's our belief that as the economy gets tougher and as those customers that are sophisticated look at getting improvement in their supply chain and looking for cost and productivity benefits, we think that's going to increase demand for our products and services.

Our pipeline for national account-like opportunities is at a record level, and where we saw increase in the quarter was in what we call, it's a five-phase process. In two of the early phases--discovery meetings and proposal submittals--that's where we saw the pipeline increase significantly through the third quarter. So we're getting more inquiries in terms of, let's call it our value-added or value solutions under our national accounts-type model. We're also applying that to utilities. We're seeing good traction. Our growth to value used was up double digits.

With that said, we are getting some indications from some of the utility companies that they're beginning to tighten up their capital spending. It remains to be seen how much that will be and to what degree that will occur. But we really do believe that that's going to occur.

We also, in terms of seasonality, fourth quarter is typically lower than third, so I think we're well positioned.

And then finally, in construction, I would say it depends. We are seeing indications of project delays. For example, one of our executives was in Florida earlier this week and met with a half dozen contractors, and bid activity in general is down. They're seeing more remodeling and renovation activity versus new construction. These were large contractors that we have good relationships with. They see rezzie-only contractors trying to compete for commercial projects. We've talked about this in the past, that dynamic.

But--but--the takeaway is Florida's been particularly hard hit from the housing downturn. They've got sufficient backlog, this half dozen contractors, that they think will carry them through, at least through mid next year.

Okay. Thanks for the color. Maybe going back to utilities for just a second, you said the hurricane impact in the third quarter was $15 million to $17 million. Do you expect an impact from those again in the fourth quarter as things continue to work through?

Yes. That was our net number, so the actual positive was a little bit higher than that. We had some offsets where our facilities were down, we were recovering. We don't see any material impact for our utility business and those customers in the fourth quarter. I think in terms of impact on our industrial customers and contractor base in terms of rebuild activity, that's something we would see over a three- to four-quarter period. It remains to be seen how large that will be given the economic environment we're operating in. It's going to depend by facility. But I think there are some facilities in the Gulf that we'll see some renovation and rebuild activity get back online.

Sure. Okay. Steve, going back to maybe your comments on price. With copper down where it is, it sounds like you guys think the next four quarters, so kind of 4Q '08 and then for the first three quarters of '09, do you think overall pricing could be negative for you guys? Or was that really just a commentary on the impact of copper, but maybe you'll still be passing through some supplier price increases to offset that?

Generally speaking, I'd say the price increases that we see across the broad base of products that we've achieved this year will roll forward to next year, so there will be a net positive. Copper, I have to give you, it depends. You tell me where copper's going to be and for how long. We just looked at the early numbers in October, 13 days of October this year, 13 days of October last year. Copper futures have swung dramatically. Our sales and margins are essentially identical for that period of time. We've talked about in the past that there can be a significant amount of time before street pricing goes to where the future pricing is. And net future pricing moves all around. So it would have to be a long period of time. But if it stayed at this lower level for a long period of time, we could see negatives on that.

Okay, fair enough. And the last thing here, and I'll jump back in queue. You talked a little bit about your planned uses of free cash. It sounds like the top of that list is probably now debt reduction versus share buybacks. I'm curious if you guys have ever considered paying a dividend with the very heavy free cash flow you've got right now. Is that something that would ever potentially enter your discussions?

We've certainly discussed it over the periods of time and as the Company has grown and our free cash flow has grown. It's an option that is available to us at this point in time. We continue to believe that we have significant opportunities in growing our top line through investments in the sales force organically, which we're doing now. And we've demonstrated over the past a good ability to do accretive acquisitions. So that still has been our past and probably will be our near-term prologue. At the share price levels, our bias would probably be more towards share repurchases than a dividend at this point in time.

Okay. Thanks, guys.

And just as a quick reminder to everyone, just so that we can get as many questions in and be respectful to everyone, we appreciate the questions and want to hear from everyone, we'll just ask everyone to try to keep it to one question with a quick follow-up in that.

And your next question comes from the line of John Baliotti of FTN Midwest Securities. Please proceed.

Good morning, guys. I was wondering if maybe you could talk about what you're seeing from a, anything through your suppliers or maybe just what you're hearing from customers, with respect to how the fragmentation of your competition's doing. Are you seeing any difference in terms of competitiveness of your larger competitors versus the smaller ones in this environment?

John, good morning. This is John. I would say that we've got a pretty good sense, at least from our supplier relationships, how we think we're doing. I would tell you that with respect to utility, we're confident that we're holding our own. We're in a hold/take share position, depending on what region you're looking at across the US. In terms of our industrial business, we feel very good about how we're holding our own. And I think if you were to look at our performance at a general level versus a Grainger, we're comfortable when we adjust for their government business and take that out.

And I think on the construction side, particularly with this quarter, with our backlog being at record levels and our recent performance, we feel good about our results. I will tell you there are, suppliers are telling us by and large that we are at least holding our own, if not taking share with our relationships with them than with us through to the channel.

So that would mean that since you're counting on some of the bigger guys being similar, then it's probably some of the smaller guys that are having a little bit harder time right now?

You can infer that, yes.

Yes. Okay. Thank you.

Next question, Nora?

And your next question comes from the line of David Manthey of R.W. Baird. Please proceed.

Hi, guys. Thanks. Just a couple of quick ones in front of you. Steve, when you're talking about 1.5% to 2.5%, you said quarter over quarter, I believe. Are you talking about year over year there or sequentially?

Year over year. Fourth quarter last year adjusted for LADD versus the fourth quarter coming up.

Got it. And then GP, where you were talking about it being higher, I believe you said quarter over quarter again. Was that sequential or year over year?

That would be sequential.

Okay, I thought so. All right. And then just another factual question here. The 200-person increase in your sales force. What percentage increase does that represent, approximately?

Of our sales force?

Yes.

It would be around 10%.

Okay. All right. And then just quickly here, in terms of your outlook, I'm just, I'm wondering as you look at the surveys that are out there and some of the indices, and you think about what happened back in the last recession, sort of '02 when nonresidential construction was down 20%, do you think '09 is going to be better or worse than that as an industry overall? And then where you're talking about your current momentum and you mention a Plan B, sort of what you would implement if things got worse, could you give us a little bit of color on what might happen if things start to deteriorate?

Let me try to take that one if I could, Dave. The outlook from a variety of sources puts the non-residential construction market broadly in the down 10% territory. Some forecasters are on either side of that number, but around 10%. And that takes in a variety of categories, as you know. Now, our business has been dramatically strengthened in the intervening period since 2001 to 2003, with a major broadening of our base of contractor customers. We have developed really strong relationships with a growing number of engineering and construction firms. We have more in the way of large regional and national firms. And so we are working on a variety of projects, but a lot of them are, they don't fall in the category of four-story office buildings and things of that nature. These are large projects that have significant backing behind them. And so from our vantage point, we think that we're a lot better positioned than we were, for sure, a few years ago. And we see that getting even stronger.

But the numbers are in the range of down 10% in the aggregate. And the differences would be in the categories. So if you're looking at petrochem, even at current pricing levels, our feedback from our customers is that they're moving forward with most projects. There have been some that have indicated some scaling back, but we don't expect to see that until well into 2009. The power generation market is still very strong. There are other major infrastructure kinds of projects that every indication we get from direct contact with customers is that they are, have a lot of work, and they've got big backlogs, and this is moving forward.

So despite the recognition that the industry as a whole will be down, we feel pretty good about where we are right now.

Okay. Thanks, Roy. And I don't mean to monopolize here, but if you could talk about the Plan B, sort of what you would put into effect if things slowed down, and I'll leave it there. Thanks.

Dave, this is John. Over the last two quarters sequentially--Q2 and Q3--we have been taking very strong managerial control. We've always had it, but we've tightened up the controls in terms of how we're managing costs in all our various expense categories. As Steve mentioned, we took down headcount. At the end of Q2 versus the end of Q1, we took down headcount at the end of Q3 versus the end of Q2. So over the last two quarters, sequentially, we've taken headcount down.

We have gone out and we have developed specific plans that are tailored. This is not a hatchet approach. It's more of a scalpel approach. We've developed specific plans that are tailored by end market sets of customers and by function, and we've got various triggers set based upon current business and outlook on business activity levels, where we'll pull the appropriate triggers as we move through time. That's the approach. It's very specific and it's specifically tailored based upon the various operating groups and functions.

And your next question comes from the line of Shannon O'Callaghan. Please proceed.

Good morning, guys.

Good morning.

Can you give us a little flavor of how you expect--I know you gave the guidance around gross margin for next quarter. But you've got your supplier price increases coming down. You'll feel some of that pressure yourself. Where do you think--are you going to be able to maintain gross margins, or can you put kind of a wide range around where you think these are going to go, and are they going to kind of bounce around quarterly, or how do you see it?

I think you'll see more stability than not. We feel that with the slowdown in price increases, that puts us in a better position to get it through the channel in an orderly fashion. In fact, if you go way back in time, you look at the '01 to '03 downturn, we actually improved our gross margins during that three-year period. So we wouldn't expect to see any wild gyrations in the gross margin line at this point.

Okay. And on, you mentioned the points about free cash flow and generation in a downturn. What about your own inventory levels at this point? If you start to think about a slower world here, are you starting to take them down, or how are you approaching your level of inventory?

Working capital is in very good shape. We've maintained good controls over that for many, many years. So we watch that by category and by activity levels. And so it is adjusted regionally and almost on a branch-by-branch basis as appropriate. We watch that carefully. I don't see a significant issue there at all.

And you're not sort of trying to take those levels down more aggressively, given the headlines you're seeing?

Well, we're always doing that, and we are pushing to bring the inventory down. The challenge there is as you take inventory down, you take down what's selling quickly as your replenishment rate, so we're watching our bill rates and availability rates. That's the key thing that we look at. And we're actually working harder on the slower-moving items to bring those down as an absolute component. So we are cognizant of where it's going with that, but our sales activity levels have been good, and we have a history of matching our inventory with our activity levels.

And the other thing--this is John, Shannon. The other thing, I think the optimizing variable for us is customer service. So we're going to, and we think it's even more important in these challenging times, particularly as competitors may have more of a challenge, that we super-serve our customers.

And the final point I'd make, if you look at our inventory, by and large, these are products that don't go obsolete. There's good, fundamental demand for them. So we've got a very detailed and mature process, as Steve mentioned. But it's focused on keeping our customer service levels where they need to be.

Okay, great. Thanks a lot.

And your next question comes from the line of William Nodler of [WestPro]. Please proceed.

Hi. Congratulations on excellent execution.

Thank you.

Did I understand correctly that you said your sales expansion costs are up $3 million this year, and is that the 10% increase in sales force you're referring to?

That's a quarterly number, Bill. It's an approximation of where we're at on a growing base. We're not completely done with our sales force expansion, but that represents the quarter's impact of where we've gotten to since about this time last year when we started the program.

Right. And you also said you're looking for, if I understood correctly, record EPS this year. Is that versus 464 the prior year?

That would be versus (inaudible). Last year was the record. This year we should be on top of that.

Okay. And what do you use as last year's figures, since different people adjust differently?

The reported figure from last year.

Okay. And just one comment I wanted to make about a dividend. I realize it's very tempting and correct to buy back the stock at four times earnings or whatever the multiple is, but it would seem to me that with the cash flow that the Company generates, there are institutions who cannot buy your stock because of no dividend. And I would think you'd want to continue to broaden your shareholder base. And thanks very much for the good work.

Thank you, and thank you for your input.

And your next question comes from the line of Sam Darkatsh of Raymond James. Please proceed.

Good morning, gentlemen, how are you?

Good morning, Sam.

I hate to belabor this question, and I'm going to get some eye-rolling from the other listeners, but I want to make sure I understand the gross margin impacts over the next--not only the next quarter, Steve, but over '09 prospectively. As I understand it, you've got supplier price increases that went through that has taken some time for you to pass those through to your customers, and you're now beginning to do that, which is a beneficial impact. And that, in Q4, is going to be partially offset by lower mix and also the commodities' deflationary effects. And so you're going to have (inaudible) I just want to make sure I understand it. So you're going to have a little bit of a sequential improvement in Q4.

In '09, however, I would suspect that if you're still going to have weak end market demand and deflationary effects of commodities and mix degradation, or at least mix degradation on gross margins, why would gross margins expand in '09 under that scenario? I'm confused.

Well, a couple of comments. On the commodity-based products, if they move rapidly in a relatively short period of time, we'll see some compression on that and some pressure as we sell our way through the higher-cost inventory. That generally fixes itself, gets to equilibrium in a quarter or so, and then normally bounces right back to maintaining what we call the standard margin on that regard. We saw that in the downturn of '01 to '03 in that regard.

The general price increases that come through tend to be permanent and stick unless you're going to see a wholesale change in the commodity prices. Again, I would remind you that the street prices are what we pay, and what the suppliers push through to us aren't what you see on the future prices. Sometimes they move in different directions than the futures prices. But over an extended period of time, if they're widely different, we would expect to see that perhaps go through. Our suppliers are working very hard to maintain the prices that they put in. They were not unable to get price increases through to the degree that commodities may have temporarily spiked. So there's a lot of pressure on the supply side to try to maintain that.

So as long as commodity prices do not continue to deflate in '09, you expect general stability in gross margins due to existing supplier price--I'm sorry--existing wholesale price increases that you're making at present? Is, that's in a nutshell?

Well, no, basically, in fact, it's when there's an adjustment period, up or down, we can see some expansion or contraction in a short period of time and it snaps back to maintain the margins. The other question would be if it maintains a very low level, it could have some impact on the top line going forward. But again, we're not, we saw similar sales activity and profitability in a short period of time in the October period this year versus last year with significantly different numbers on the commodity prices.

Okay. I've got just a couple of real quickies here. Number one, the FX losses with the commodity--I'm sorry--with the exchange rates having shifted fairly rapidly. Do you expect those losses to continue, Steve or Dan? How should we look at those over the next few quarters?

Well, actually, on the top line, we had an FX loss in the P&L, and they're pretty much coming in line. We're doing a good job of matching our liabilities and assets on our foreign operations to try to negate that for the most part, but there will be some small ones in there.

And from a top line impact, we actually have a positive impact. We would expect to see that from our Canadian operations, and we expect to see that perhaps swing mildly the other direction.

Okay, so no real P&L impact going forward that's of a material nature?

I wouldn't think of a material nature. We actually had, last year, the real change from last year is last year was extremely positive, and we had $5-plus million of favorable impact. So since then, we've tightened up our matching of assets and liabilities to mute the impact of currency swings.

Okay. And lower fuel costs? Have they cycled through yet and have aided the margins at all, or you have yet to see that yet?

We have not seen that at this point in time.

And last question. The hurricane happened late in the quarter. Do you still believe your net benefit, the net result was a benefit to the top line?

Yes, I wouldn't, it's really hard to tell, because we have, certainly we can point to a couple of customers in the utility business that business really went up. What you don't see, we have roughly 50 branches that were kind of in the paths of the storms, and so what happened to our facilities, that happened to the construction or industrial businesses, they get slowed down. We believe it's a net positive. It's just not a big number.

Thank you.

And your next question comes from the line of Curt Woodworth of JPMorgan. Please proceed.

Hi. Good morning.

Good morning.

A hypothetical question. If we were to assume that 2009 gets potentially dramatically worse than what you're thinking today, if we were to say that sales were $500 million lower in '09 than they are this year, it's about an 8% decline. Realistically, what would your SG&A look like? So $500 million down, that's probably--call it $95 million lower gross profit. I know some of the SG&A is obviously tied to the gross profit metric. Clearly, you'd probably be cutting headcount at the end of the year if that did become a reality. Just give me a sense for what, realistically, what SG&A would look like under that scenario.

And what happens is the SG&A will go down and will go down as fast the sales if you're saying sales goes down rapidly. We have, it's a hypothetical question. We had some real-life experiments on that in 2001 through 2003, where it took and that we had a deteriorating top line--in the first year, 6% or 7%, a little bit higher in the second year, and it kind of leveled off, although down in the third year. And we chased the headcount versus the top line all the way to the end of that point in time, caught up with it in 2003, and when the cycle came back, so we essentially kept our headcount the same.

When we look at it on normal terms, if kind of good growth environments, we look to be at the 50, that our headcount, our SG&A costs grow at half to two-thirds the rate of the top line growth. When you have a rapid decline, it takes you a while to catch up, and it actually goes probably the inverse of that for a period of time.

So if you were down 8%, you'd think SG&A would only fall by 3%?

You know, 3% to 5%.

Okay.

It depends on the speed of it, Curt.

Yes. And then on, in terms of the direct ship business, it seems that's probably the most at risk from an economic standpoint in 2009. How much lower are the gross margins on that business than the branch-based sales?

It's 30% to 40% lower. But I think the piece on that, I would say, is different than your modeling exercise, is our project business as a percent of our total business is less than what it was five years ago. And then the elements of our project business have changed a fair amount with the addition of our Communications Supply acquisition, which goes into that category, that we believe has a different end market driver, being more bandwidth driven than new construction. So we think that fundamentally the Company's a different company than it was five or six years ago, and we'll see how we deal with this upcoming economic environment. We're a lot better positioned.

Yes. I was just trying to think about what the mix benefit would be to gross margins next year. If the direct ship business falls off, likely more dramatically than the--.

It would improve the gross margin--.

Right, but--.

But I can tell you, going, if you look at the past as a percent of our sales, the direct ship versus our stock business has not materially changed over a five-year period. And even during the downturn, while we saw its mix improve a little bit in that regards, it wasn't a big step function change.

But you would expect the project and then the branch-based businesses to decline at a similar rate next year? In a recession?

Well, I think--no, we would not. The mix would be slightly more favorable.

Yes, okay. All right. Thank you.

And your next question comes from the line of Brent Rakers of Morgan Keegan. Please proceed.

Good morning. I wanted to go back to, I think, Steve, at the initial part of the call talked about a Q3 revenue number of 2% adjusted for some things, and then 7% overall. Could you take me back through the components of getting from the 2% back up to the 7%?

Yes, there was several factors in that. We talked about price realization, we talked about impact on, we had one additional workday in the quarter. A small impact on acquisitions and foreign exchange.

And the impact, Steve, on acquisitions, could you remind me again what LADD was and then what maybe the three smaller acquisitions contributed on the positive side?

LADD was around $25 million the previous year, so if you look at our reported sales were $5.3 million, we adjust to a 7% number, that difference is LADD. And acquisitions, they were small acquisitions. One of them's already, we're already past the one-year period. So it was 0.5% of sales or less.

All right. Great. And then last question, given what's going on with the Canadian currency in particular, it looks like sequentially, possibly revenue's down $20 million to $25 million or so from that. Could you maybe walk through what the impact of that was outside of just straight lower revenues, lower GP dollars, how SG&A would move with that?

Can you repeat your assumption there? I didn't follow you on that one.

Yes. I mean, just in terms of September even versus where the trend line exchange rate is with the Canadian dollar, in terms of the impact on revenues as it goes to a year-over-year negative impact on the revenues from currency--once again, let's call it, say, $20 million to $25 million or so fourth quarter versus fourth quarter last year--how would SG&A be affected by that number?

Everything would track the same on that deal. We'd bring the, that's a wholly-owned subsidiary, so that the dollar, the ratios would be identical from gross margin, SG&A, et cetera. It was slightly favorable in the quarter, but if you use those type of rates, you're looking at a $20 million type of a number. So you're not too far off on that number.

And then one last question. What was the average interest rate on the AR facility, and then what do you see that as of the month of October?

The secured rates are in the 4% to 5%, 4.5% range. We'll see it go up a little bit in October, but we expect to see it come down again as commercial paper rates are now coming back down.

Great. Thanks, Steve.

And your next question comes from the line of Deane Dray, Goldman Sachs. Please proceed.

Thank you. Good morning. I'd just like a clarification on some of the answers you've given on the cost structure. And can you clarify what type of top line environment you're structured for today? You've done the additions to the sales force, you've tweaked back SG&A. So given the present structure, what's the top line environment that you're optimized for today?

Right now, we're pretty well put in position for the top line you're seeing. We don't, we've not put in a big bench of second "call them off the bench, bring them into the game" type of a scenario. And as John talked about, we've got contingency plans in place that are formalized. But frankly, and not a whole lot different than how we operate on an ongoing basis, we're tweaking headcount in particular branches or operating entities up or down based on their specific activity levels.

The big variable, Deane, is the fact that we have added to our sales organization, and there is some ramp-up with that. And as we continue to add, we'll see multiple layers of ramping up, depending on when people were hired. But we basically look at our sales personnel as, if they cover their costs in the first year, we've done a pretty good job. We really expect performance out of them in the subsequent year. And the reason for that is we bring them onboard, we've got a lot of company training, we've got product training, we get them introduced to new customers or market segments. And so there isn't clearly a ramp-up to basically to cover the costs in the first year with growth coming after that.

So there is some, if you will, latent capacity being developed in this process, and we're absorbing that cost as we go forward. So on a go-forward basis, we should have additional capacity that's really going to show itself two or three years out as we accomplish this multi-layering of this year's people coming up to speed and then adding another group on top of that. So it's not a huge number, but it is building, and we are building that into our cost structure.

That's helpful, Roy. And that's on the sales side. On the SG&A side, just to clarify, Steve said there is a little bit of a lag effect as you pull back on some of the SG&A costs. What period of time are you talking about? Is that a quarter or two before you see the effect?

A quarter or two is a reasonable number, but it also depends on where the activity levels changes. If it's changing in the project business, we can't take as many people out because there's not as much activity inside the Company versus stock or MRO-based activity, which is something that we bring it into the warehouse, pick, pack, and ship it on our trucks. So there's a little bit of that mix component into that. So it really depends on which area it's coming from. If it's coming from the project business, the percent of sales impact would be a little bit higher on the SG&A, although the dollars wouldn't change as much.

Got it. And then just the last question on leverage. Where do you expect to end up in December on leverage versus your goals?

We're right where we need to be right now. We're at under three times leverage, and plus or minus 0.2 to 0.2 of a turn to that, probably not on the plus side.

And if you're paying down, it would be down through the inventory revolver?

Inventory revolver first and securitization second.

Very helpful. Thank you.

Okay.

And your next question comes from the line of Adam Uhlman of Cleveland Research. Please proceed.

Hi. Good morning. Just a couple of clarifications. First of all, Steve, you said that headcount would be worked down again in the fourth quarter. What would headcount look like at the end of the year on a year-over-year basis, then?

We'd probably be flat. We had a bit of a build in the first quarter, really driven by kind of a jump start on our sales force additions. You may recall at the end of the first quarter, we talked about continuing to look at additions but to be even more forceful in our execution of productivity actions, and that's what we did. And we would expect to see kind of similar to what we averaged in the second and third quarter, reduction in the fourth, but basically put us flat for the year on hire sales.

Okay, great. And then on the gross margin side, can you talk about what's been unfolding with supplier rebates and incentives? You guys have been growing pretty nicely. Have you picked up any benefits from that, or are those yet to come?

They're pretty much flat for the year, and if you look at how these programs work, they're just growth components in that, so you have to have some growth each year to maintain parity as a percent of sales. So it's pretty similar to what we had last year. And I wouldn't expect there to be any pickup or momentum going forward in the fourth quarter on that. We keep it pretty tight all throughout the year and typically don't have any big quarterly adjustments to that. So it should be neutral.

Okay, great. Thank you.

And your next question comes from the line of Steven Gambuzza of Longbow Capital. Please proceed.

Good morning.

Good morning.

On the backlog numbers that you put out, specifically on the power side, I believe you talked about the change versus the prior year as well as versus year end. What was the change sequentially?

It was flat.

Flat sequentially. And the supplier rebate question that was just asked. If you do see next year being a down year in terms of sales in the 5% to 8% range, what would the headwind on margin associated with the rolloff of the incentives you've booked this year, how would that hit the gross margin line, in what order of magnitude?

With that, it depends as well. But if nothing changes in the programs, it's a 20-basis-point-ish type of a number. But every year we try to look at those programs and get structural improvements, as well as--on existing programs--as well as add new programs to the mix. And so we're right in that process right now. Depending on our success on that, it could help negate if sales slow down.

I'd add one other point. If sales slow down, on the top line it wouldn't necessarily correlate directly with the rebates, because it depends on what types of products and which suppliers we're doing. To the extent we're able to shift purchases where there's multiple sources for fuses or wiring device type of lines to a preferred supplier from what was coming from a non-preferred, we can negate some of that.

Okay. And then you mentioned nine points of organic growth in the power business this quarter. Could you just quantify how much of those points were hurricane-related? I know you can't give the absolute dollar amount, hurricane? If you could kind of bring up the nine points in hurricane in price and volume?

Yes. Specifically inside utility, and it was principally with three major customers. It was approximately $20 million. And that would equate essentially seven-plus to eight points of the overall nine points of growth for utility. So if you take hurricanes out, from a utility perspective, utility had positive growth in the quarter versus Q3 of last year, and I would say that momentum was similar to the second quarter.

So seven to eight points hurricane?

Yes. And in second quarter, if you remember, we grew utility. But prior to second quarter, Q1 of this year, Q4, 3 and 2 of last year, we had negative utility sales.

Okay.

I'd just remind you that if you say we take the hurricanes out, we had 50 branches that would have had some impact of lost business and higher costs as a result of hurricanes. So you just have to recognize the right way to look at it is to look at it in the aggregate.

Well, let me close now. We've reached the noon hour. Steve and John have indicated October is off to a good start on both the sales line and on margin improvement. We've had a good number of major customers who have clearly indicated that they are proceeding with major developments inside their companies and capital spending programs. There have been some large companies that we are aware of that are not our customers who have been announcing cutbacks, but so far I'm pleased to say we haven't taken a direct hit.

We are actively proceeding with our development programs, we're hiring new sales personnel, we're staffing new leadership roles in market segments where we believe that there's significant future growth potential. We're proceeding with the most expansive set of new internal training programs, in part to make sure that our sales organization is better equipped than ever before, and we're investing in information systems upgrades and enhancements in a number of different areas.

So we've got a lot going on. We recognize that these are tricky times, but we're focused on what's going to make our business strong, both short term and in the long term.

So we want to thank you for your continued interest and support of WESCO. Have a good day.

Ladies and gentlemen, thank you for your participation in today's conference. This now concludes your call. You may now disconnect. Good day.