Watts Water Technologies Inc (WTS) 2007 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Q2 2007 Watts Water Technologies earnings conference call.

My name is Shirelle, and I will be your facilitator for today.

At this time all participants are in listen-only mode, however, we will conduct a question-and-answer session towards the end of the conference.

(Operator Instructions) I would now like to turn the presentation over to your host for today, Mr.

Kenneth Lepage, Assistant General Counsel.

You may proceed, sir.

Thank you.

Before Pat and Bill begin their presentation I want to inform you that remarks they may make about the company's future expectations, plans, and prospects constitute forward-looking statements for the purposes of Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995.

Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors including those discussed under the heading, "Risk Factors" in our annual report on Form 10K for the year ended December 31, 2006, filed with the Securities and Exchange Commission and other reports we may file from time to time with the Securities and Exchange Commission.

In addition, any forward-looking statements represent our views only as of today and should not be relied upon as representing our views as of any subsequent date.

While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so and therefore you should not rely on these forward-looking statements as representing our views as of any date subsequent to today.

I will now turn the presentation over to Pat and Bill.

Thank you, Ken.

Good evening, and thank you for joining us tonight.

As usual, what we'll do is I will make some opening comments, I'll turn the meeting over to Bill McCartney, who will walk you through the numbers and explain the numbers in detail to you so you can build your models and things like that, and then we'll open the lines and accept any and all questions you may have.

The first thing I want to point out is I want to talk a little bit about the environment in which we're operating.

The North American commercial market remains strong.

We expect the commercial market to continue to expand into 2008 -- a lot of nice activity in the commercial marketplace.

North American residential marketplace is weak, as you all know.

We expect this market to bottom out sometime late this year, maybe early next year.

You've all the heard the stories about the residential market and the softening that we're currently experiencing.

Just so everybody understands, we estimate our exposure to new residential starts to be about 20% of our exposure in terms of sales volume.

The European markets are somewhat mixed.

Sales to Eastern Europe continue to expand.

The OEM sales remain strong, France remains strong boasted by the enthusiasm surrounding reforms being promoted by their new president, Mr.

Sarkozy.

The wholesale channel in Europe remains a little bit sluggish particularly in Germany and Italy.

We expect this market to remain softer in the second half of the year.

The next big issue, really, in terms of the first issue is the environment in which we're operating.

The second is the issue with regard to our profit pressures, do they increase raw material costs, which are not being totally offset by increase in pricing to customers.

Just so you know, we announced a 5% price increase effective June 14th to North American wholesale customers, which it has a positive impact on the third quarter and forward.

Similar price increases are being implemented in North American OEM retail channel as well as in Europe.

In terms of the acquisitions, I want to just point out one thing.

We expect the acquisition deal flow to increase and the multiples on transactions to moderate during the second half and into 2008.

This is being driven, really, by the credit issues that are impacting the private equity firms and the multiples that resulted from the private equity firms being active in the acquisition market.

With those opening comments, I'll turn the call over to Bill, who will walk you through the numbers.

Bill McCartney.

Okay, thank you, Pat.

Revenue for the second quarter closed at $350 million, that's an increase of $50 million versus Q206, and that's a growth rate of 16.7%.

On a consolidated basis, to break that 16.7 up into its components -- from an organic standpoint, we grew $27 million on 9%; the foreign exchange was $7 million, or about 2.5%, and that's predominantly the euro strengthening versus the U.S.

dollar; and the impact from acquired companies was about $16 million, or 5.5%.

And we'll go through each of the various segments and break out the revenue for you as we go through the presentation, but on an overall basis, about two-thirds of that organic growth will be pricing, one-third, would be unit.

As we look at the earnings, $0.45 from continuing operations on a fully diluted basis, and that's down from $0.68 in Q206.

And there's a couple of things I'd like to mention now, and we'll get into more detail as we continue the discussion.

Last year we had a large gain from a sale of a building in Italy.

That was about $6.5 million or about $0.12 per share.

Then in the current quarter of 2007, we had a couple of adjustments that we recorded in our numbers.

We did book $2.9 million pretax number in cost of goods sold, for a change in estimate associated with our workers' compensation insurance, and we also recorded a $1.1 million hit to the tax provision associated with the write-off of some deferred tax assets in China.

And, of course, the major issue is -- we'll talk about really is the continued inflationary pressure on cost of goods from increased commodity costs.

But, as we look at the segments, North America closed at $224 million of revenue.

That's an increase of $16 million or 8%.

The vast majority of that really is organic growth, 15 of the 16 is from organic, small $300,000 number from foreign exchange associated with the Canadian dollar strengthening, and then acquisitions of about $1 million from the Calflex acquisition we did at this time last year during the second quarter of '06.

(inaudible) channels, if you will, inside of North America.

First of all, on the retail side, the sales closed there at $42 million, that's down $3 million from last year, a decline of about 7%.

And if we look inside of the retail in terms of the activity, we had some price increases that we achieved, and those price increases were offset by a combination of two things, really.

One is some low margin business that we exited as well as the softness we're seeing in the residential market where the book at retail sales is predominantly a residential product line.

And, of course, we have a little bit of offset there with some continued rollout of new products as well.

But the bulk of the decline is associated with the softness in exiting some low-margin product line.

On the wholesale side, revenue closed at $182 million, that's up $19 million, or 12%, and that 12%, we would characterize at approximately two-thirds pricing and one-third units.

When we look at the product lines that are associated with the residential side, which are the smaller devices, go onto smaller pipelines, pipe sizes, those units are down, and we see increases in the commercially oriented products.

These are large devices that have commercial application such as the backflow, drains, strainer line.

In addition, we see the acquisitions of Febco and Mueller contributing very nicely on the wholesale side as well.

So it's really what we've been saying all along -- the results are consistent with that in terms of the residential softness being offset by some of the strength on the commercial side.

For Europe, revenue closed at $108 million, that's an increase of $24 million, or 29%.

The components of that growth would be the internal growth of $5 million, or 6%.

Foreign exchange of $6 million, or 7%, and then the acquisitions at $13 million, which is about 16%.

The acquisitions we see in the quarter -- ATS Expansion Group, Black Teknigas, and Kim Safe -- all acquisitions completed last year.

In ATS we have a partial quarter in that we did close on that deal in early June of the second quarter.

When we look at the channels inside of Europe, the wholesale market was up about 8% inclusive of acquisitions, and it was down 4% if we exclude the acquisitions, and where Pat is coming from when he mentioned some of the weakness in the wholesale market, particularly in Germany.

On the OEM side, revenue was up 27%, and even without the acquisitions, it would be up 18%, and that's where we see the continued strength on some of the product lines such as the solar, geothermal, et cetera.

And, of course, the do-it-yourself market is up a little bit with the acquisition of ATS Group and down slightly without that acquisition.

It's not a meaningful number if you exclude the impact of ATS Expansion Group.

On China, we closed the quarter at $17.7 million, that's an increase of 9.6 or 120%.

The components there, organic growth of $7 million, which is 83%, the foreign exchange is up slightly -- $600,000, which is almost 8%, and the impact of acquisitions of $2.3 million, about 29%, and that is the acquisition of Changsha Valve, were up again, that deal was closed last year during the second quarter.

On the organic growth, we do have one adjustment, which is included in that, in that we have four months of revenue for two of our facilities in China, we were reporting those on a one-month lag.

We now have them on a consistent basis with the rest of the company because of some of the accounting systems that we've installed there.

We are able to report them on a more timely basis so, therefore, if you look at the organic growth rate in China adjusted for those catch-up months, if you will, you'd see a growth rate of 50%.

Looking at the gross margin on a consolidated basis, that's 32.7%, that's a decline of 280 basis points.

Now, inside the gross margin is where we did book that adjustment for workers' compensation on the change of estimate that we had.

If you exclude that adjustment, the margin would have declined 200 basis points, and that 200 basis points is entirely due to the increased material cost that was not recouped through higher pricing.

And, as Pat mentioned, we do have theories of price increases that have been implemented or are being implemented, which we believe we'll be able to recoup a significant portion of that.

Looking at the SG&A expense at $84 million, that's a decline in terms of percentage of sales.

It's at 24% versus last year at 24.6%.

The represents an increase of $10 million.

The components there, from an organic standpoint -- an increase of about $5 million.

The foreign exchange of 1.5 and the impact from acquisitions of about $4 million.

Looking at the operating earnings, $30.3 million using our U.S.

GAAP numbers from our P&L, however, I think it's important, though, to understand if we look at the quarter more from an operating standpoint, and we exclude those adjustments, which we feel is appropriate to do to try to get a feel for the operations of the company, and that would suggest, then, that we would back out that work as comp and exclude the gain on the sale of the building last year, and on that basis operating earnings would be about $33.6 million compared to $32.9 million last year -- so a slight increase in operating earnings from the result of the operation of the company.

Obviously, we would like to see that to be a bit higher, but that's where we see the impact of the higher cost of material.

Looking at the tax rate in the quarter, it's 36.1%, an increase of about three-tenths of a point from last year's second quarter, and this is where we did write off $1.1 million against the tax rate as a result of some NOLs that were expiring from China, and we felt we weren't going to recoup those before the expiration period, so we wrote them off, and that has about a $0.02 impact on the consolidated results.

So when we look at the earnings per share for the quarter, $0.46 -- we believe that, again, from an operating standpoint, it's more -- about $0.52 because you adjust the adjustments, deferred tax asset of about two pennies, the workmen's comp of about four pennies, brings you up to $0.52, and, of course, we still are experiencing $0.02 dilution versus last year because of the stock offering.

So, I think, with that, we can open it up to any questions that you might have.

Thank you, sir.

(Operator Instructions) Curt Woodworth, JP Morgan.

Bill, can you help us get a little bit more understanding around, again, the commodity issue?

A 200-basis-point impact is definitely higher than we were forecasting, and when you look at -- you know, you'd have FIFO inventory accounting, and you turn your inventories, I think, about every five months, I mean, copper is about where it was 14 months ago, so it seems like you've had plenty of time to implement pricing and have had knowledge of what's going on in the raw material market.

So is it simply a matter of it just takes a long time to get pricing through, or has it been certain things that you didn't anticipate, which is why you're behind the eight ball so much?

Well, I think there's a couple of things there, Curt.

First of all, it's more than just copper that impacts us -- we buy a lot of nickel.

Nickel is at an all-time high in terms of what went through cost of goods is up almost $22 a pound, the nickel, you know, inside of brass and bronze, we're using tin, lead, and zinc -- all of those metals are up significantly versus last year.

So those are impacting us.

But I think when you look at the numbers for the quarter, and you compare them to what we had discussed at the end of the first quarter when we had our call, we said that we thought the second quarter was going to look like the first quarter and, in fact, we actually did a little bit better.

So you recall, from an operating standpoint, in the first quarter, we earned about $0.46 because in Q1 we had a favorable adjustment on the tax line.

So, from an operating standpoint, it was $0.46, and we think, from an operating standpoint this quarter, it's going to $0.51 or $0.52 in the quarter.

So people really shouldn't be surprised, in my opinion, because we were pretty straightforward about what we saw coming.

And now, that being said, it's still -- you still have some of these higher metal costs with a very soft residential market in the U.S.

So I don't know if that answers your question or not.

Yes, it helps, and then the 5% price increase for June 14th, how much of that do you expect to be -- do you expect to realize, and should that get your margins back to where they should be for the wholesale channel, and then in terms of the retail side of the business, is it sort of early '08 is when you hope to get pricing in place to get back to parity or whatever your internal target is on margins?

More than likely, we think a reasonable estimate on the wholesale side would be the net four out of the five, okay?

But that's really not guaranteeing anything.

But we're trying to design these price increases to recoup the -- return the margins to where they were if we are totally successful.

I think it's a reasonable estimate to say four of the five, a lot of it will depend on what the rest of the industry does.

We have seen price increases coming from most of the competitors, it remains to be seen how firm they're going to be with those price increases, though, so we're watching that very closely.

On the retail side, our sales management folks are dealing with those customers now, and we're discussing price increases with them.

We're not sure when those will actually be effective but, hopefully, before the end of the year.

And then our European managers are also addressing this issue with some pricing increases even as we speak, and hopefully we'll see some of that during the third quarter as well.

Okay, in terms of your nickel spend, can you give us a sense for what that is on an annual basis?

Well, Curt, we've been very reluctant to start getting into that kind of detail because as soon as I start disclosing how many pounds of copper and how many pounds of nickel, et cetera, and so many more things that impact the margin in terms of market conditions and pricing --

-- yes, I understand --

-- it's a rathole.

Okay, but, overall, like, raw materials and commodities are, roughly, 65% of COGS?

Yes, they are.

Mark Grzymski, RBC Capital Markets.

Good afternoon.

I won't ask about copper, so -- you'll probably get more questions on it, anyway.

You mentioned the acquisition environment.

It almost seems like you're going to be more aggressive given what you're seeing out there.

Maybe you could just remind us what you're going to be targeting.

With that in mind, if --

This is Pat.

Let me just repeat my comment.

You know, I think the environment for acquisitions has been relatively tough over the last nine to 12 months, particularly in terms of the multiples paid for deals, and I think you knew there was a lot of money chasing a limited number of deals.

So those multiples got up there to the point that you had to have some serious synergy to make your numbers make work.

And even when you big high prices, you often lost on the deal.

I think what you're seeing now is you're starting to see that you're going to go through a period of digestion, where people realize that the number of people chasing deals has changed.

I think you're going to see the multiples moderate a little bit, and I think you're going to see the number of people out there participating on deals at those lofty prices to be much lower than they have been over the last nine to 12 months.

With that being said, we're sort of in an ideal position, because we have cash in our balance sheet, we're able to finance transactions.

To us, sort of the ideal deal would be a deal that fits into our strategy.

Ideally, we're looking at deals that are $50 million to, let's say, $150 million in size, though.

We think that those kind of transactions are going to be available over the course of the next couple of years at more moderate multiples than they have been during the last 12 months.

And, with that said, do you think now you're leaning more non-U.S.?

No, I would say we're indiscriminate between making an acquisition in Europe or making an acquisition in North America at this point.

Okay, and then, lastly, guys, on the wholesale business in Europe, I'm wondering if you could just give a little bit more color -- not confused but, obviously, mixed signals out there relating to that market not just within your business but in others.

Just a little bit more color would be helpful.

This is Pat again.

Let me just explain what's going on in the wholesale market in Europe, and it's a very sort of imbalanced situation.

If you go to France, the wholesale market continues to be strong, it tends to be growing, there's a lot of enthusiasm about a new president who was elected and some of the reforms that he's introduced -- a lot of positive things happening that are bolstering people's confidence in the economy in France.

If you go over in Germany, you have somewhat of a different situation.

You have a prime minister who was put in place some time ago.

Maybe the initial euphoria over a new prime minister is wearing off.

You also have a couple of fundamental problems, which is the population in Germany is aging, the birth rate is low.

You actually have a situation where the debt rate is higher than the birth rate, and you have people who aren't as confident about the economy, and I think, to a certain extent, that's trickling down, and we're seeing the same thing in the Italian wholesale market.

It's a little bit sluggish at the moment.

So we look at it right now, we think the rest of Europe is doing fine from a wholesale point of view, but we have softness in the German market, and we have softness in the Italian market, in that order, too.

So would you expect any pickup, or are you seeing any signs of it, or is it something that you think is going to linger through 2007?

I think it's going to linger at least over the next couple of quarters.

I don't have visibility beyond that, but I think you have a softness that will take some time to reverse itself.

Ned Armstrong, FBR & Company.

A couple of questions -- first, with regard to the commercial markets, which you commented favorably on in the U.S.

Do you expect those markets to remain strong for several quarters?

Are you seeing any signs that they may be weakening, strengthening, moderating at all?

Well, my feeling is that I expect that the commercial market will remain and continue to expand all the way through 2008 at least, which is the visibility I currently have.

And is that observation based purely on your visibility through the channel, or are there other factors that are weighing in on that decision?

No, it's really coming down from the feedback we're getting through the channels.

If you go out to the architects and engineers, and you see what's in their backlog and what they're working on, there's quite a few projects.

You go to the city of New York, as an example, you have the renovation of Yankee Stadium, you've got the renovation of Shea Stadium, you've got the rebuilding of downtown Manhattan, you've got rebuilding projects and renovation projects going on in a number of the major hospitals.

There's a good example, when you look in New York City.

There's quite a bit of commercial activity.

The market is pretty robust, and I would say if you go back in the channels, and you talk to the architects and engineers, there's a good supply of projects that are at various stages of the process.

And would you say that the same is true with commercial markets in Europe as well?

Overall, I'd say the commercial markets in Europe are fairly strong.

You know, our growth in Europe is coming from a combination of commercial markets, Eastern Europe, new product introductions, some applications where we were first to market with some packages and things of that nature.

I see you're coming off really a low base there, so to speak, as opposed to a just generally vibrant market?

That's correct.

Okay, and then if you could just remind me regarding the margins in China -- they, once again, appeared high.

Could you just, again, run through the reason for that?

That they appear high?

I think they're consistent with the way they've been running, though, Ned, right?

I mean, those margins you're seeing in China are the result of the sales into the domestic market and some export sales that those companies make directly.

And you've also seeing a -- well, you don't necessarily see it on the geographic footnote, but -- or segment information -- but the volume of production going through those factories is up quite a bit over last year, so we're doing a better job of absorbing expenses.

Ryan Connors, Boenning & Scattergood.

A couple of things -- number one, in terms of just alternatives, it seems to me that raw material prices on the metal side or the higher prices are kind of here to stay, it seems, and with you and your competitors pushing on pricing, are you starting to see more acceptance of the plastic alternatives?

I know, anecdotally, we're hearing contractors talking about that more and more, and I just wondered whether you were seeing that, and, most importantly, whether you saw that as a risk or an opportunity for the company?

Yes, the answer is that you are seeing substitutions, and I'll just use a couple of examples.

For example, we have a line of tech products, where we're manufacturing crosslink polyethylene piping system, and that is an area, which is displacing copper tubing as a means of piping in a residential or commercial application.

We see it extensively in the under-the-floor heating market.

We also have, for example, a company that makes quick-connect fittings.

We have seen large growth in those type of fittings and alternative applications.

So you are seeing an increased acceptance of plastic-based or resin-based product in lieu of metal product, but there are a number of applications.

The more rigorous applications, the commercial applications where that has not had any impact whatsoever, though.

It's mostly on the residential side on the smaller diameter products and the lower pressure products.

Okay, would you say that you are agnostic?

In other words, if things do go that way, you're well positioned or would that be an incremental negative for you guys to see things shifting towards plastic in some applications?

No, we've been shifting through out acquisition program for product lines that are more plastic-oriented and more alternative material-oriented for the last several years, so we've been moving with that trend.

We expect that trend to continue and probably see a number of other applications that bring us further into alternative materials other than metal.

Okay, and then, nearer term, in terms of the raw material issue, obviously, you do buy things other than copper, but it's an important one, and there was a dip there, kind of late '06, early '07.

One would think that at some point that has to roll through the P&L, assuming that you guys were buying some copper at that point.

Has any of that happened in second quarter or is that a third quarter thing or --?

Ryan, what we said in the first quarter call is that we would see that lower-cost copper coming through the P&Ls during the third quarter, and that's still going to happen.

So we feel that the cost of copper will dip for us, and then we'll have some additional pricing as well in the third quarter.

But potentially we would expect some improvement.

Okay, and then, just, lastly, if you could give a little bit of color around the workers' comp assumption change -- just exactly what was going on there?

Thanks, guys.

Okay.

What happened there, Ryan, was that we employed an outside actuary to come in and assess some of our more subjective reserves, and, as a result of that, we determined that we had under-accrued some of this workers' comp, and we went through the review process, determined that it was a change in estimate from an accounting standpoint, and we booked it in the quarter.

Keith Hughes, Suntrust.

Yes, your commercial business in the United States -- does it tend to go more towards new construction or into renovation repair markets?

It actually goes pretty much into both on an equal basis.

So we see quite a bit in commercial renovation projects when we see the equal amount in new residential structures, as well.

And it looks as though from the European revenues, despite the wholesale, it's still a pretty healthy market overall, is that correct?

If you look at all of Europe, I'd say that's true.

If you look at Germany, you'd say the opposite.

And what is your biggest country in Europe?

Probably Germany.

Germany, okay.

It's being offset by strong activity in other countries, though.

With the cash pile you have, I know you've been looking for acquisitions, really, since the [ARTS] as an equity deal.

Have there been specific transactions that may have come back to the market, or pieces of it come back to the market with the financing difficulties coming on -- anything that you'd be interested in have you seen?

We haven't seen anything yet, but I am expecting that there will be some deals that come back on the market that we would be interested in.

Some of the deals that we lost several years ago to the private equity firms, you'd think that at this point in time, they may be ready to flip those.

So we may see the activity coming from the private equity firms being sellers.

Mike Schneider, Robert W.

Baird.

Maybe first, Bill, just specifically on China -- you mentioned the accounting timing change that added about $3.2 million in sales.

Should we assume those sales came in at the same margin as what you reported for the quarter in China?

Very little impact on the bottom line to those additional revenue time.

Okay, and just on pricing in North American wholesale -- what have you seen out of your competition?

I guess anecdotally we hear from one or more of your largest competitors.

They've gone out with similar mid-single digit price increases.

Can you confirm that, and then, secondly, what's your sense about the pushback from the channel?

I think, Mike, the thing that I'm beginning to recognize is that all the competitors are being impacted by the same primary factors in terms of driving raw material costs.

I think what we're seeing from competitors is the timing of when they recognized that they need to firm up pricing varies by competitor.

But I think, in general, we see competitors that are interested in firming up prices recognize that they need to protect their margin and are taking steps to do so.

And what have you seen in terms of customer shifts or price elasticity?

Have you determined that the channel is, I guess, able to absorb the price increase and not switch brands?

Or have you seen and learned anything about the switching of brands among some of the major distributors as this phenomenon has gone on?

There has been some shifting, because people are moving to try to get an advantage over their competitor by either having a delayed price increase or try to avoid a price increase for some period of time.

But, overall, Mike, I would say that net-net that there hasn't been huge shifts in the market whatsoever.

It's more of a -- quite honestly, it's somewhat of an issue of the wholesalers having to digest.

You give them one price increase, they go out, and they have to talk to their customers and get their customers to firm up, and just as they're done with that, you have another one behind it, and I think there's a little bit of just fatigue pushback, okay?

I don't think anybody in our industry is gaining or losing major chunks of share as a result of this, if that's what you're thinking.

Right.

And gross margins, sequentially, were lower as higher copper and other materials rolled through, but, as you noted, if you consider the FIFO accounting, you've got easier comparisons on average copper costs in 3Q.

If you net out the higher other raw materials and the lower copper, would you expect gross margins to be up, flat, or down sequentially?

And I'm really speaking about the 33.6 you posted this quarter, if we scrub it of the one workers' comp issue.

If you back out that workers' comp, and then look at it sequentially, Mike, we are expecting to see margins open up in the third quarter.

Okay, and the price increases that presumably -- well -- have started in June and going on in the other channels, that's really intended to address the Q4 squeeze that comes as the average copper cost rises?

Yes.

We're expecting in Q4 copper will go up from the Q3 levels, and sort of returns to where it's been earlier in the year, and those price increases, if they're effective, are designed to cover that level of copper.

Okay, something in the 350 neighborhood?

That's right.

Okay, and then, just finally, at least on the markets, the DIY channel -- can you give us a sense with a down 7%, how much of that is true de-stocking, how much of it do you think is just lower same-store sales, and then how much of it is really your efforts to prune the mix or manage the mix, as you call it?

Probably about half of that is us pruning the mix, the rest of it is -- we're attributing it to the softness in the market.

Okay, and along those same lines, there's been a fair amount of press recently just on China changing its export taxes, or export rebates, I should say.

How does that impact your business coming out of China, if at all?

Yes, it does impact us, Mike.

We have, in China, there's about a 17% value-added tax, and recently we have been receiving about 13% rebate when we export, and the new rules changed that to about a 5% rebate, and that affects about half our business coming out of China.

So, again, that's one of those inflationary issues that we are dealing with and will be dealt with through some of the price increases that we're talking about.

So is it as easy as us modeling a 5.0 margin hit to half your China sales, starting at some point in the third quarter?

Well, you wouldn't see the --

Those are domestic sales within China.

It's 5% on the product that runs through -- eventually runs through the North America cost of goods sold.

That's right.

Okay, and, roughly, in dollars, what is that, Bill?

Several million dollars.

Okay, and then just, finally, just some stats for the quarter -- do you happen to have cash flow from operations and capex for the quarter, Bill?

I didn't see it in the release.

Yes, one second -- capex, year-to-date, is $15.1 million, and cash from operations is minus $1 million.

Tom Brinkman, Davenport.

I just wanted to know about the North American retail.

Can you give us a bit more color on the low-margin business that you exited?

What, in particular, that was and when it will be completely done?

Well, these would be products that are at the very low end of our product offering that are very commodity oriented in nature -- different types of copper fittings and whatnot, and we've already seen this in the numbers for Q1 and now Q2, so we'll be seeing a bit more of this in Q3 and Q4.

Okay, and also -- you mentioned that Europe had some one-time items in the year-ago period.

I was wondering if you could just give us an apples-to-apples comparison and what the margins were like just for Europe year-over-year -- either operating margins or gross margins?

Well, the one-time situation that we referenced in Europe was last year during the second quarter we sold one of our facilities in Italy, and we had a one-time gain, a pretax gain, of $6.5 million.

So you just have to back that out of the number for the European Q2 of last year.

Okay.

And then, finally, in the last earnings call, you mentioned that you had North America price hikes implemented in February, I think you said, February 26th.

How much of that was successful and, of those price hikes, when should we expect it to hit the top line?

Well, we're seeing some of that already in our numbers.

As you recall, during my remarks, I mentioned that a lot of the wholesale increase in North America really is pricing.

We're looking at a wholesale increase of about 12%.

I said it was about two-thirds price, one-third unit, and that two-thirds pricing is the result of a whole series of price increases that have gone on since the second quarter of last year.

We had a price increase in February, we had a price increase last November as well.

So whatever we've realized from that is in the numbers right now.

(Operator Instructions) Jeff Hammond, Keybanc Capital.

Just in terms of the moving pieces, as you look sequentially.

You've been running the first half of the year high 8% operating margins, and I guess with the lower-cost copper coming in, and some of these price increases, are we closer to that high 8 level into the second half or moving back towards your historical run rate of 10, 10.5?

I think one way of looking at it, Jeff, is that if you back out that workers' comp charge, in the quarter we were 9.6% operating earnings.

And I would also remind you that we don't give guidance, and you're dangerously close to asking for guidance.

Well, I mean, I just want to understand, to some extent, magnitude of the impact of the lower-cost copper moving into the third quarter versus the price increase.

You have to realize what we've also said during the call that if the price increases are fully effective, we're expecting that we would be able to return our margins to where they were prior to this last runup in higher material costs.

As early as the third quarter?

Well, some of the price increases in terms of the retail won't happen until fourth quarter, probably.

But we're hoping that the bulk of the wholesale increase will be effective during most of the third quarter.

If we put it out there June 14th, we do have some coverage orders, we had something in the backlog, so you don't get 100% of the activity for the quarter, but we get a lot of it.

Okay, and then what should we think of as a tax rate in the second half of the year?

I think 34% is reasonable.

We've had two unusual quarters for tax rate, but I would budget 34.

Okay, and then back to DIY -- do you have any sense what inventory levels are like at the DIY level?

Are you getting any kind of indications whether they're still correcting inventories, or they're pretty low, or where you stand?

I haven't heard or seen any information that says that inventories are anything but at a normal level.

Depot and Lowe's, they're ordering from us daily, so there's no need of them stockpiling any large inventory.

We have very high fill rates with those guys, so they don't stockpile our material.

Okay, and then you mentioned walking away from some lower-margin business -- do you expect any of that, going forward?

Or have you kind of flushed that out?

We think we've flushed it out.

As I mentioned on -- I think with Tom's question, we'll see some additional activity in that regard in Q3 and Q4 for what we've already flushed out with some of the product line, so we're not expecting any additional product lines that need to be flushed at this point based on our current cost structure and pricing.

Ned Armstrong, FBR & Company.

Bill, at one point during the call you had done a quick walk-through to get from your reported $0.45 to a $0.52 number, and that was of two components -- one was the $2.9 million contribution to the workers' comp, which, I guess, that's a pretax number?

Yes, it is.

And then the remaining $0.02 was NOLs in the China market that you wrote off because you did not think you would realize them, did I understand that correctly?

That's correct.

Okay, so the combination of those two gives you the $0.07 differential?

Yes, I was starting at $0.46 and went, which his from continuing operations and then adding the $0.06 because of those two items, and that gets you to $0.52.

Got it, okay, it's $0.46 to $0.52 and those two combined for $0.06.

Good, thank you.

Michelle [Tetchwall] Stanford Group.

It's Francesca and Michelle here.

Most of my questions have been answered, but a couple on the workers' comp issue, are we done with that, or is there any chance of another re-assessment somewhere along the way?

We're done with it.

[laughter]

Just checking.

We've assessed it thoroughly, I can assure you.

Okay, excellent.

I think we've had enough of actuaries.

Okay, good to know.

And then in terms of growth in Asia but specifically China, just a little bit about your strategy there when you talked about acquisitions earlier, you were saying North America and Europe, and I know that the outlook for the Chinese market is a very judicious approach, I'd say, to grow there, whereas other companies are kind of rampant in wanting to grow their business.

Can you just give us a little update on your thoughts for the Asian market?

Yes, I think we would feel comfortable investing in the Asian market for the right opportunity, but we're a little bit more selective in that market than we are in other markets because we look at our deals on a risk-adjusted basis.

I think the way you'd look at European acquisitions, they tend to be lower multiple, less risky.

I'd say North American operations recently, unfortunately, have been high multiple, but businesses that we clearly understand and have a higher degree of confidence in.

When you're getting into the Asia deals, you have a little bit more risk and as a result your hurdle rates are a little bit higher.

Okay, thank you, and then one last question on Home Depot's water assets.

Any kind of update on potential impact for you there?

Yes, we actually think that Home Depot supply, on its own, will actually grow at a more accelerated rate than when it served two masters, it was serving.

So we look at that change in a positive light.

We think it will probably, in the long term, be good for Watts and be good for Home Depot's supply.

And very little competition because those are mostly the more commoditized, lower-margin, and little direct competition there?

Well, I think, quite honestly, that those are good organizations.

They bought fine companies when they bought them.

They have pretty good, solid management teams, and we look at it as they're overall very loyal customers to Watts.

So we're looking forward to embellishing our relationship with those branches.

And there appears to be no further questions at this time, but would now like to turn the call over to you, Mr.

Pat O'Keefe, for any final comment.

First of all, I want to thank everybody for joining us today, and I invite you to join us again in late October when we do our third quarter conference call.

Thank you very much.

Ladies and gentlemen, thank you for your participation in today's conference.

This concludes the presentation.

You may now disconnect and have a most pleasant day.