Woodward Inc (WWD) 2010 Q3 法說會逐字稿

Welcome to the Woodward Governor Company third quarter fiscal 2010 earnings call. At this time I would like to inform you that this call is being recorded for rebroadcast and that all participants are in a listen-only mode. Following the presentation you will be invited to participate in a question-and-answer session.

Joining us today from the Company are Mr. Tom Gendron, Chairman and Chief Executive Officer, and Mr. Bob Weber, Chief Financial Officer and Treasurer. I would now like to turn the call over to Mr. Weber.

Thank you, operator. We would like to welcome all of you to Woodward's third quarter fiscal 2010 conference call. In a few minutes Tom will talk about the highlights of our third quarter and our markets. I will then comment on today's earnings release. And at the end of our presentation we will take questions.

For those who have not seen the release, you can find it on our website at woodward.com. As noted in the press release, we have included some visual presentation materials to go along with today's call that are also accessible on our website.

An audio replay of the call will be available through August 2, 2010. The phone number for the audio replay is on the press release announcing this call and will be repeated by the operator at the end of the call. In addition, a replay of this call will be accessible on our website for 14 days.

Before we begin I would like to provide our cautionary statement as shown on slide three. In the course of this call, when we present information and answer questions, any statements we make other than actual results or business facts may contain forward-looking statements. Such statements involve risks and uncertainties, and actual results may differ materially from those we currently anticipate.

Factors that might cause a material difference include but are not limited to future sales, earnings, business performance and economic conditions that would impact demand in the aerospace and defense, power generation, distribution and transportation markets. We caution investors not to place undue reliance on these forward-looking statements as predictive of future results.

In addition, the Company disclaims any obligation to update the forward-looking statements made herein. For more information on risks and uncertainties facing Woodward, we encourage you to consult the press release and our public findings with the Securities and Exchange Commission, including our 10-K for fiscal 2009 and 10-Qs for the quarters ended December 31, 2009, March 31, 2010, and June 30, 2010, which we expect to file shortly.

Going forward, as we refer to net earnings on these calls, we are technically speaking to net earnings attributable to Woodward. In addition, segment earnings EBIT, EBITDA and free cash flow are non-US-GAAP operating measures that we use in the press release and during this call. A description of these measures and a reconciliation of each to the most comparable US GAAP measure is included in the appendix to our slide presentation and in our earnings release and related schedules, all of which are posted on our website.

Management uses this information in monitoring and evaluating the ongoing performance of Woodward and each business segment. Now I will turn the call over to Tom to discuss the quarter's highlights, our markets and our progress toward achieving our strategic goals.

Thank you, Bob, and welcome to all of you joining us today. I would like to modify our discussion pattern somewhat this quarter. As we exit the economic turmoil of the past 18 months, sequential improvement takes on a more informational role than usual. Our release and Bob's comments include year-over-year analysis, but I would like to also focus on our sequential improvement and also how we see 2010 wrapping up for us.

Overall this quarter we continue to see improving revenue growth as the year progresses, and the recent level of customer order activity supports our expectation that the sequential growth will gain strength through the end of our fiscal year. More importantly, we are seeing significant positive evidence that our strategies of leveraging strong customer relationships and partnering on key growth platforms are delivering results.

Quarterly highlights include sales of $356 million, up sequentially from $349 million in the second quarter of this year, evidence that many of our markets are improving and others are stabilizing. Earnings before interest and taxes were also up sequentially again, from $43 million in the second quarter of this year to $45 million in the third, reflecting operating leverage on the sales increase.

Reported earnings per diluted share were $0.45 for the third quarter compared to $0.34 for the second quarter. Earnings for the third quarter of this year include the special items mentioned in our press release, which Bob will describe later. Free cash flow for the quarter was $31 million, and our leverage ratio remained at 1.9 times EBITDA. Overall, these results indicate that our businesses are improving, while our cash flow and balance sheet remain solid.

With respect to our markets and business segments, we are seeing further recovery in our overall market situation. Our aerospace and short cycle markets continue to strengthen, while longer cycle markets such as the industrial gas turbine power generation and marine markets are stabilizing. These signs are encouraging, and we continue to carefully manage costs and pursue opportunities for share gains.

More importantly, our strategies to add value are bearing fruit through new and expanded customer relationships, increased new content on customer platforms, and significant progress in the development of next generation products and technologies. These efforts have been the focus of our strategic investments over the years and have resulted in market share gains on an expanded variety of platforms. These wins are consistent with our strategy to secure important positions on successful platforms in aerospace and energy markets.

Turning to our individual markets related to aerospace, increases in air traffic continued. This supports improving aftermarket sales and in turn a favorable product and earnings mix. Our efforts to offer customers upgrade opportunities on several existing platforms supported our continuing aftermarket strength in our turbine segment. We continue to drive initiatives in our airframe systems aftermarket. This will take some time to see sustained improvement, but we remain confident we are on track.

With respect to OEM production, Airbus and Boeing are implementing plans to increase production rates over the next year on key platforms, such as the A320, A380, and Boeing's 777 and 737. The Farnborough Airshow included a number of announcements that were quite favorable to Woodward content as we go forward. Boeing 787 and 747-8 testing continues with generally good results. We are beginning to ramp up delivery of the GEnx fuel systems in addition -- in anticipation of the launches of these planes.

The GEnx program is a significant milestone for Woodward and is a great example of our technical systems capabilities. To further improve these capabilities we recently broke ground in Rockford on a $21 million systems test facility. This facility will enhance our abilities to develop and test next generation fuel systems, supporting our customers' efforts to improve the efficiency and performance of their turbines. The facility should be complete in a little over one year.

Business jet sales, usage, and aftermarket activity are showing signs of life after several difficult quarters. These improvements are starting to be reflected in our results. Regional jet deliveries are still challenged and likely will remain that way for a while. The defense markets remain generally steady, despite the short-term softness in some platforms that we anticipated in previous quarters. We expect the defense markets to remain stable overall, but with some quarterly variability.

Turning to markets that comprise our energy related businesses, industrial turbine sales remain challenged as OEM deliveries continue to be soft. However, these markets appear to be at or near the bottom of the cycle. Increases in long-term power needs across the globe remain, although short-term economic activity has temporarily reduced demand.

We continue to believe the long-term fundamentals of the gas turbine market are solid. The relatively low emissions, the supply and cost of natural gas, and the ease of permitting and the quicker installations are advantages that will support turbine sales in the future. We continue to make progress in this market with expanded content.

In electrical power we see an improving market trend, though we still experienced the negative side of the economic cycle in our third quarter results. While recent wind turbine installations have remained low, we have seen a significant increase in wind converter activity and expect that to translate into significantly higher sales in our fourth quarter, as much as 40% higher.

In addition, we are preparing for increased production of wind turbine converters in connection with the offshore repower contracts announced during this past year and under our expanded Nordex relationship announced earlier this week.

Our new Krakow facility opened this quarter, and we have electronics production capability in four countries on three continents. Krakow is also set up for key engineering talent utilized across all of our businesses. With the addition of this facility we are now well positioned to support global electronics growth for years to come.

Turning to our other electrical businesses, we secured significant new power plant projects and orders for grid-related products that will bolster results in future quarters. The return to double digit profitability in our engine business speaks to the improving strength of these markets and the effectiveness of our cost reductions. Our industrial reciprocating engine markets showed continued improvement in the small engine area and stabilization in the larger engine markets.

Demand continued to improve for small engines used in construction and light industrial applications, as well as for alternative fuel engines used on buses and delivery vehicles. Production stabilization for large engines is supported by steady customer demand for mining and power generation applications. Demand for large marine applications remains weak, but is stabilizing at low levels, with signs of recovery beginning to be seen.

Our slides highlight an important growth platform for us in the reciprocating engine space. Caterpillar's C175 engine is a 106-liter diesel that is designed for significant improvement in performance efficiency and emissions. This engine is used in electrical power generation, mining, marine and locomotives. Woodward's high pressure fuel pump was designed to help Caterpillar achieve their goals for the C175, and we are proud to play an integral part on this successful platform.

In summary, we see growing signs of improvement in our markets, and we are looking forward to a strong finish to fiscal year 2010. For the longer term, we like our position for growth in both our aerospace and energy markets, and we remain focused on delivering value by securing important positions on key platforms. Now let me turn it over to Bob for the financials.

Thank you, Tom. At the Woodward consolidated level, net sales this quarter were $356 million compared to $386 million for the 2009 third quarter. Most of our business segments saw sequential improvement, although year-over-year sales volume declines continued. Foreign currency exchange rates had an unfavorable impact on sales of approximately $4 million in the quarter.

EBIT, or earnings before interest and taxes, was $45 million for the quarter compared to $37 million for the prior year. Last year included $12.5 million of pretax charges related to the amortization of the purchase accounting step-up in inventories. EBIT was primarily impacted by the sales volume declines, partially offset by favorable selling price and mix impacts, together with savings resulting from cost reduction actions primarily taken in 2009. These cost reductions allowed us to substantially maintain overall profitability as a percent of sales in spite of the significant sales volume decline.

Net earnings for the 2010 third quarter were $32 million, or $0.45 per share, compared with $25 million, or $0.36 per share, in the prior year third quarter. Included in this quarter were $6.4 million of tax benefits, or $0.09 per diluted share, of which $2.7 million or $0.04 per share were anticipated and included in our previous guidance.

Earnings per share for the current quarter adjusted only for these unanticipated favorable tax benefits were $0.40. Excluding all special tax items, earnings per share this quarter were $0.36. Earnings per share for the prior year third quarter adjusted for special items were $0.41. Currency -- foreign currency exchange rates had a minor impact on EBIT for this quarter.

Turning to our business segments, Turbine Systems segment net sales for the third quarter of fiscal 2010, which include inter-segment sales, were $151 million compared to $159 million for the third quarter year ago. Although aerospace sales increased during the quarter, the increase was more than offset by sales declines in our industrial gas turbine products.

Segment earnings for the third quarter of 2010 increased to $36 million from $33 million for the same quarter a year ago. As a percent of sales, segment earnings 23.8% this quarter compared to 20.9% in the same quarter year ago. Our segment earnings benefited from a favorable sales mix, partially offset by the decline in volumes.

Moving to our Airframe Systems results. Airframe Systems segment net sales for the third quarter of fiscal 2010, which include inter-segment sales, were $94 million compared to $108 million in the third quarter year ago. Sales levels reflect volume declines in most of the segment's product lines, as well as the effect of the August 2009 sale of the fuel and pneumatics product line.

Segment earnings for this quarter were $3 million compared to a loss of $6 million in the third quarter of 2009. Segment earnings as a percent of segment net sales were 3% this quarter compared to the loss reported in the same quarter for the prior year.

Excluding the $12.5 million amortization of the purchase accounting inventory step-up, segment earnings in the third quarter of 2009 were $6.5 million, or 6% of sales. The sales volume declines continued to negatively impact earnings levels, with cost reductions providing only a partial offset.

Now turning to Electrical Power Systems. Electrical Power Systems segment net sales for the third quarter of fiscal 2010, which include inter-segment sales, were $47 million compared to $69 million for the third quarter a year ago. Orders for wind turbine converters are up significantly, as Tom mentioned, but this quarter remained depressed and accounted for the majority of the sales decline.

Foreign currency exchange rates contributed approximately $3 million of negative sales impact. Segment earnings for this quarter were $3 million compared to $13 million for the same quarter last year. Segment earnings as a percent of segment net sales were 6.5% this quarter compared to 18.1% in the same quarter a year ago. Segment earnings were impacted most significantly by the decline in sales volumes.

Moving to our Engine Systems results. Engine Systems segment net sales for the third quarter of fiscal 2010, which include inter-segment sales, were $86 million compared to $77 million for last year's third quarter, an increase of 12%. We saw continuing improvement in sales related to short-cycle engine products supporting construction and transportation markets, while longer-cycle products, such as large engine applications in the marine and power generation markets, remain sluggish.

Segment earnings for this quarter increased to $9 million from $4 million for the same period a year ago. Segment earnings as a percent of segment's net sales were 10.6% this quarter compared to 5.1% in the same quarter of last year. Segment earnings improved due to the increased volumes and cost controls.

Lastly, looking at non-segment expenses. Non-segment expenses were essentially flat with the prior year quarter at $6 million. Non-segment expenses were 1.7% of external sales for the third quarter of 2010 compared to 1.6% in the prior year quarter.

Now, I would like to focus of certain specific elements of our consolidated financial statements. Gross margin, defined as net sales less cost of goods sold, increased as a percent of sales to 29.9% in the third quarter of 2010 compared to 25.7% for the third quarter of 2009, which was impacted by the $12.5 million purchase accounting charge for inventory.

Selling, general and administrative expenses were $31 million or 8.8% of net sales this quarter compared to $33 million or 8.6% of net sales in the same period of 2009. Research and development costs were $21 million for the third quarter of 2010, up slightly from the third quarter of 2009.

As a percentage of net sales, research and development was 6% in the third quarter of 2010 compared to 5.4% in the third quarter of 2009. Total depreciation and amortization expense for the third quarter of 2010 remained flat with the prior year quarter at $18 million.

Our effective tax rate for the quarter ending June 30, 2010, was 16.3%, compared to 6.4% for the same quarter last year. As noted in previous quarters, tax benefits related to resolution and revaluation of prior year issues have been recognized and produced quarterly variability in the effective tax rate. As mentioned earlier, some of these items were estimable and had occurred over the last several years. We therefore anticipated their impact and included $2.7 million in our previous full year tax rate guidance of 31%.

Tax benefits recognized in this quarter actually exceeded that estimate and previous guidance by $3.7 million, as I described earlier. As a result of these unanticipated tax benefits, we now expect our overall full year tax rate for fiscal 2010 to be approximately 28%. The tax rate for the prior year third quarter was favorably impacted by a $5 million resolution of certain prior year matters.

Capital expenditures were $4.7 million for the third quarter of 2010 compared to $2.6 million in the third quarter of 2009. As Tom mentioned, we have broken ground on a new systems test facility. Costs for this will start in our fourth quarter and continue through 2011. Also, we have opened our Krakow, Poland facility and will not be incurring further construction costs.

For 2010 we anticipate total CapEx of approximately $25 million to $30 million. In 2011, overall we will return to more normal levels of spending. In addition, we will substantially complete the systems test facility along with some IT systems initiatives.

Looking at cash and the balance sheet. Woodward generated $36 million of cash flow from operations for the third quarter of 2010 and $31 million of free cash flow. Free cash flow will remain strong, with the sales increase requiring increased working capital utilization. Our total debt was $454 million at June 30, 2010, compared to $572 million at December 30, 2009. From a high of $757 million immediately after the HRT acquisition, the quarter end balance reflects total net repayments of $303 million.

The ratio of debt-to-debt-plus-equity was 37.7% at the end of the third quarter, compared to 38.4% at the end of the second quarter, 41.8% at the end of the first quarter, and 44.6% at September 30, 2009. During the quarter, we repaid $10 million of short- and long-term debt and our debt was 1 point time -- 1.9 times EBITDA at June 30, 2010.

We in essence renewed our share buyback program, which was about to expire in September of this year, and under which we had purchased approximately $33 million of Woodward shares. We terminated our prior program and the Board approved a new three year program at the same dollar amount of $200 million. Our philosophy of opportunistic occasional buybacks has not changed.

Working capital, defined as current assets less current liabilities, was $423 million at June 30, 2010, $414 million at March 31, 2010, $428 million at December 31, 2009, and $434 million at September 30, 2009.

Lastly, let me turn to our outlook. First, as you may recall, most of our segments are predominantly late cycle businesses, and we usually see the upturn effect a little later than most. Having said that, we are seeing substantial order increases, as Tom mentioned. Most notably at our Electrical Power Systems segment for wind turbine converters.

Our other segments are also experiencing continued order rate improvement. Therefore we anticipate a strong close to fiscal 2010. As a result and largely consistent with our previous guidance, we expect net sales to be approximately $1.44 billion and reported diluted earnings per share to be approximately $1.56,including the special tax benefits, recognized this quarter and discussed earlier.

Overall, 2011 is shaping up nicely. Increased sales volumes and leverage resulting from our previous cost reductions will significantly enhance profitability. We look forward to the launch of the GEnx and deliveries of the Boeing 787 and 747-8. We anticipate significant share gains and resulting volume increases in wind turbine converter sales.

These positive factors will be somewhat tempered with higher levels of annual incentive compensation associated with the improved financial performance, and a higher full year tax rate as a result of the anticipated lack of a permanent research credit and fewer special tax benefits compared to prior years. We believe the full year tax rate for 2011 will be in a 32% to 34% range.

Along with these factors remains the uncertainty of overall economic conditions, which are difficult to anticipate at this time. That concludes comments on our business and results for the third quarter of fiscal 2010. Operator, we are now ready to open the call to questions.

(Operator Instructions). Tyler Hojo of Sidoti & Company.

Good evening, guys.

Good evening.

Hi, Tyler.

So I wanted to you ask you guys a little bit about the Electrical Power Systems business. It seemed like you had a nice little win there that you announced the other day. So I was hoping that perhaps you could give us a little bit more insight into that exactly that means to the numbers. And then I'm just trying to gage where the wind business is today relative to where it was last year.

Okay. I guess a little bit -- I'll start with the last question, Tyler. We are seeing the tail end of what I was calling the pause in the wind business, and that was really the uncertainty tied to incentives and financing. And really right now we are seeing our customer base, the orders starting to come in. We expect 40% increase in the fourth quarter and continued increases going into next year.

We have been picking up market share gain across the customer base and Nordex is a good example of that, where we have been working with them. Our global strategy of being able to produce US, Europe and China is working. So we feel real good that the market's turned, the orders are -- across the industry are coming in. We are now moving into that time period where lead times are over and our shipment rate is going to start increasing significantly going forward.

Okay. And perhaps if you could just tell us kind of just from a sales perspective where the business is tracking on, say, a trailing 12 month basis, and where it was a year ago at this time?

Well, it is down from '09. But 2011 will be up considerably from '09. So if you kind of put it in that perspective.

Okay. And then look, I know you guys don't do business with General Electric on the wind side, but on their conference call they were indicating they are seeing pricing pressure, and it just generally seems like they are pretty -- not very positive in terms of the outlook there.

I mean how do you kind of box that? I mean just given your kind of -- I mean it seems like you are little bit more optimistic. Clearly it seems like perhaps it is coming from market share, but perhaps if you could just talk to us a little bit there.

Sure. One thing we definitely are -- why we are saying there is a significant increase coming is we have gained share. So, that is helping quite a bit. Pricing pressure in the industry. What I always say about the wind business today is it has moved from kind of a startup environmental initiative into industrialization, so the dynamics are very similar to what we would see in reciprocating engines or gas turbines.

And also you see that by the makeup of the market today, you are starting to see the big industry players in here. Siemens has entered. Alstom has entered. You're going to have a Suzlon/REpower combination that is going to be very large. GE is in here.

So it is looking like -- well, we always say it looks like the turbine market, and we expect the industrialization to continue. And it's probably a little -- obviously, a few more players in the turbine market, but it is going have some of the same dynamics. It needs to be global. That is why we set up the factories around the world, the service network, the application engineering.

And we think it plays well to Woodward's strengths on how we work with the large global OEMs, and we think that is how we continue to capture share. And we continue to want to pick up more. That's why we're still talking to all the players, but we have done well here in the last year, and it is starting to show.

Okay. And the expectation for growth in fiscal 2011, does that contemplate some additional share gains, or are you just more referring to what you see just in term the of the trends that you just talked to?

Yes. The share gains are going to start to show even more in 2011.

Okay.

So we have share in the markets we are covering. When we look at the long-term market fundamentals, a lot of forecasts are out there, but we think after the pause it is back pretty close to the growth rate that it was on.

It's going to be a good growth rate for at least the next five years as far as we can see. And within there you've got some market economics happening and then also the market share gains on top of it. So we think it is going to be real positive for us going forward.

Okay. It will be nice to see that kind of develop. And then just lastly for me, I just wanted to ask you about Airframe. I get the charge there in the quarter, but maybe you could just talk to us about how the integration is tracking relative to kind of when you first made the two acquisitions, MPC and HRT.

And then if you are -- still feel you are on track to get to kind of a double digit margin range within a reasonable period of time. And then if you could maybe just comment on how MPC is doing. I know they are allowed to kind of get new government contracts at this point, and if they have made any progress on that front. Thanks a lot.

Okay. The Airframe Systems business, we have now called the integration complete. That doesn't mean we are done improving, but all the integration activities we set up when we bought both MPC and HRT have been completed. Got a unified management team and we're running it as one business under Woodward Processes. So from that standpoint we feel good. We accomplished that in the timeline we laid out.

The business is continuing to improve. The orders are coming in, so this is -- we are seeing sequential month-by-month order increases. We have to deliver on those orders, and we have had some challenges just recently with getting the orders and turning to the upturn. So coming -- making that transition from downturn to upturn, but we are making progress. We believe we will be approaching the 10% segment earnings in the fourth quarter and moving into 2011. So we still feel that is out there and --.

With respect to MPC, the government -- we resolved, if you want to say, the government issue that MPC had. We are working with them. We are free to compete, and we are bidding on a wide range of both commercial and military projects. So I think that -- we at Woodward made a lot of commitments on how we are going to run the business, and we also took that across all Woodward businesses with respect to the Department of Defense. And so I think we had a good relationship with the DOD and nothing is inhibiting us from securing new business in that area.

So we are still feeling good about it. We're still working, as we said, on the aftermarket. That is a continuing effort, as we said. And we have seen some progress in terms of our operational activity on repair and overhaul turn times, which is key to improving aftermarket revenues, so we are starting to see some of that occur. It is going to take some more time, but overall we are pretty much on the plans we laid out when we bought the companies. The downturn maybe put us a little off, but as you can see we are starting to track forward.

Great. Thanks for all that color.

Yes.

Fred Buonocore of CJS Securities.

Good evening.

Good evening.

I just wanted to clarify what you were just talking about, Tom, on Airframe Systems. You talked about potentially approaching the 10% segment earnings in the Q4 timeframe. Is that including or excluding the amortization?

That'll be as reported.

As reported, got it.

Right. So that will be in essence including the effect of the amortization.

Okay. And just can you clarify a little bit more -- the margins kind of remain depressed in the quarter. Are -- I just want to understand. We didn't see a sequential downtick in revenue in the quarter. We actually saw that pick up. What is still the biggest pressure on the margin there as of Q3?

So one of the things, as you notice, we didn't really see a downtick, but we have seen the increase in orders, and the real impact is we need to be able to get that equipment out the door. And so we have been working on that and struggling somewhat. And so there have been some additional costs incurred as a result.

So we do believe that we are making progress there, and that as we progress into the fourth quarter we will see those revenues increasing more and the cost structure will be more inline.

Right. So it sounds like whatever the issues were, you probably straightened them out pretty well if you are expecting that kind of Q3 to Q4 pickup then.

They will be straightening out, yes. As Tom said, we will be approaching. So we don't want to -- 10% isn't a slam dunk. Everything would go right, but we will be getting close to that number.

Right, no, that sounds good. And then just on the Nordex agreement that you announced I guess this past Monday. Can you give us any kind of sense for the size, scope and duration of the agreement, just so we can understand the magnitude of this kind of deal?

The duration is about two and a half years. It has been kind of -- it is not a two, three year kind of thing, it's a little bit odd from that perspective. Volume is extremely difficult to tell. It represents a significant share increase for us that will fluctuate somewhat, so that has to be kind of -- as time goes forward, that share will move around a bit.

But it makes us a key supplier to them. And a lot of it will depend during that timeframe in terms of volume, a lot will depend on their success, and Nordex has been with us ever since we got into wind, and they have been a successful customer. And we anticipate this will be a significant increase in our share with them.

Okay, great. Thank you very much, and we'll look forward to seeing you at our conference in a few weeks.

Sounds good.

Peter Lisnic of Robert W. Baird.

Good afternoon, everyone.

Good afternoon.

I just want to go back, I guess, to that Airframe margin in the quarter. It just sounds as though there are one-time costs that you are incurring to kind of get the businesses ramped to a higher level of activity, if you will. Is that kind of the right way to think about it? Because when you look at that sequential margin it is a bit surprising, I guess is the way I would classify it.

Yes. That is true, plus on addition to what Bob said, was also -- there were some mix issues. As in all of our businesses, there are some quarterly mix. I wouldn't read much into the mix. It just happened to be on some of the programs that went and didn't go that there was a mix, and operationally we were transitioning to upturn and experienced some additional costs. So as we were saying going forward, we are confident in its margin earning capability.

Okay. And is there a way that you can maybe parse out the impact of the two on the quarter?

I don't think we would want to -- we sincerely believe they will be one-time costs, but they are not the type of thing that we would characterize as unusual where we would want to kind of quantify some impact that you can expect to go away.

A lot of these are ramp-up related. And so as we are preparing and have been preparing for the ramp-up, there are problems that arise and that is really what we have got. So there is a variety of those things that we do anticipate that we are getting our hands around and making progress on that will abate as we go forward in the fourth quarter.

And maybe I can just take that as a quick opportunity, we have done a lot over the past several months, almost a year, getting ready for the upturn overall. And most of our businesses, I think you can see, we have been delivering increased profitability and a lot of those plans are bearing a lot of fruit. That doesn't mean you are going to win every time. And so we've had some difficulties here on the Airframe side, but we do believe those will abate going forward.

Okay. That is helpful. And then if I look at the guidance and the commentary, the full year revenue number of $1.44 billion and potential 40% increase in the EPS business implies that the rest of the businesses are flat to down slightly in the fourth quarter year-over-year. But your commentary suggests that order growth has been really strong.

So my guess is that you have got, A, very good visibility, and B, are pretty optimistic on what the 2011 revenue picture looks like. Can you maybe give us a little quick insight into what is driving that optimism for 2011? Maybe give us a ballpark that we might play in in terms of growth for next year?

Clearly I think the order volumes are what is giving us the optimism with respect to next year. We (multiple speakers).

Is that across the board?

Largely across the board. I think some of the areas you guys are very well familiar with. Commercial OEM, you can kind of call that out with respect to the commercial aircraft. We are seeing signs, miles flown, used aircraft and so on, indicating that business is coming back. Regionals is probably more the third of those three to hope that that is coming back.

Engine, I think the -- some of our customers' recent numbers have been positive with respect to volumes for next year. So I think there is, one, a lot of external data points and a lot of internal data points in the form of orders that are giving us a lot of confidence as we go forward.

We have not ever subscribed to the dramatic V recovery. So we still believe it will be a solid recovery. Some areas will improve dramatically. Other areas -- we've called out some of the long-cycle businesses in marine and so forth -- those will be a little slower to recover, a little temperate.

Yes, Pete, I'm not sure exactly on the math, but we do expect in the fourth quarter each business to be sequentially up.

Yes. No, I was using year over year.

Oh, year over year. Okay.

Year over year. Okay.

But I want to go back I guess to that little point you made at the end there, Bob, and just -- there are businesses that are going to be stronger. Can you just put them in buckets as to what would be exceptionally strong versus more modest type of growth? We have a general feel for it, I guess, but the issue I think that I've always had is that some of the content gains are at times difficult for us to quantify. So I'm just wondering if you could maybe help on those two fronts.

Let me take a crack, and, Tom, jump in here anywhere.

Yes.

So maybe starting with the Electrical. So, wind, as we mentioned the orders are strong, as Tom said. This one is very much a -- you have to watch the orders closely, because it doesn't follow the same dynamics as a regular commercial industry to some respect -- extent. So, wind very strong. We are seeing our power generation and distribution products are increasing solidly. I wouldn't call that -- they are not like 40% type increases. They're just nice solid increases in terms of orders and customer indications for next year.

Moving over to the aerospace side, I think I kind of cut that a minute ago and said that commercial OEM you've seen some increases in some of the aircraft production volumes. We have seen a lot with respect to business jets in terms of hours flying and so on. That should favorably impact the aerospace -- the aftermarket side of the equation. As Tom I think indicated last time, most of the large business jet production rates stayed pretty steady, and we have some pretty good content on those aircraft, so we are confident in that particular area. Regionals are still a little bit unknown. We will see if traffic continues. Then you would anticipate that regionals would come back as well, but don't have a lot of specific indicators there.

The engine side, we are -- actually, there has been some customer discussion type information with respect to marine that indicate that we are starting to see light at the end of the tunnel. Transportation, you know, we called out compressed natural gas buses and delivery vehicles as an area of some volatility, but that looks like it will be coming back as well. And the small engine with construction, very driven with home sales, and we have seen that bounce around, but we are fairly bullish on that continuing an uptrend.

And then Airframe on the defense side, no reason to believe -- a lot of discussion with what is going on with the budget. As we said, we continue to believe we are in the workhorse programs there that will continue nice solid sales in 2011. No large increases, no large decreases there. And on the commercial side there are some aspects, for example the A380, that help us out. And we think probably most of 2011 will be execution on our being able to deliver on the orders.

Okay. That synopsis pretty much covers it. I very much appreciate that. Thank you.

You're welcome.

William Bremer of Maxim Group.

Good evening, Bob, how are you?

Good, you?

Go right into engines. Can you give me an idea -- nice increase there. Can you give us a little more color in terms of was this replenishing of inventory, or was this demand?

It is a little of both. And sometimes it is little hard to see, but there definitely were at our customers' programs to replenish inventory. So without a doubt, there was some of that going on. But we are seeing increased demand coming across. Not everyone, as Bob highlighted. Like the marine market is going to be a little longer. But the other markets are starting to kick in. So we are starting to see steady increases in demand. So we believe we have turned the corner there.

It is hard for us to see the split.

And did I hear you right correctly when you said, fourth quarter, each business segment will be up sequentially.

That's correct.

That's all I have. Thank you, gentlemen.

Sure.

J.B. Groh of D.A. Davidson.

Afternoon, guys.

Afternoon.

I had a question specifically on GEnx and as it relates to aerospace. As this program ramps up have you started to see any real pull through from GE on that particular line, or are you still sitting on your hands as some of the suppliers have told us they are doing right now?

We are delivering right now. Really what you got is, as you're probably well aware of on both the 87 and 47, there is some pretty aggressive production rates coming, and we are working with GE to make sure we are supporting the ramp-up.

So I think everybody in the industry has got a lot more confidence in the dates. They may be moving by weeks at the moment, but confident these programs are going to take off going forward. And we are well prepared for it, but yes, they're -- we expect 2011 to start seeing impact from GEnx.

I guess I would consider you guys sort of the longer lead time supplier just due to the fact that you supply GE, not Boeing directly. So does that mean it would happen pretty early in 2011 to see a ramp on some of these programs, whether it is a reramp of 777 or 787 going back -- or starting to ramp up?

Our Turbine Systems business is going to see increases in sales across some of these ramp -- like you are highlighting 777, potentially the A320 as they are talking about the rate increases there. 87 and 47 will be coming up. So, yes, we are anticipating that and expect to start seeing that in 2011 and moving increasingly into 2012.

And if Boeing decided to do some sort of re-engine program, when would that start impacting your R&D? Do you think that would be something that would also happen? I mean if they make this decision in fall to re-engine, which they haven't really given us a clue on, but --

Well, to give you an idea we have been working on it for six years.

Already.

Already. And we have got a very sizeable R&D team working on the next generation engines here. There is no doubt -- I was over at Farnborough last week, and found out that was the talk of the show. You also got, for Woodward, we -- to help put it in perspective, we are on the pure power, the geared turbofan at Pratt already on the current version, so that is launched. They won the Russian narrow body, so they are committed to building the larger thrust engine, and we are in discussions with them on what that looks like and ideas and R&D. Nothing committed to us but we are working that.

The CFC, which is GE and Snecma, have and will be launching the LEAP-X engine because of the Comac 919. So these engines are moving, and these [exact] engines will be the ones for narrow body either upgrade or new narrow body from Boeing and Airbus, so from Woodward's perspective, it's all out right now. I mean, we are aggressively pursuing those contracts, and I would anticipate something, six to nine months potentially would be when we might see RFP awards. So there is a little big of -- there's a lag as we are working all the details, but those engines are going.

And now following on, obviously Boeing and Airbus is the market, and we will be watching that closely, but we do anticipate that there will be decisions early -- late this year, early next year. So I do anticipate that is going to happen. So we feel good. We have been working it. Anticipating what those applications were going to require, and I think we are in a good position to compete.

But with regard to R&D spending, there wouldn't be like a huge ramp up or anything. I mean it sounds like you have been investing in this type of idea all along, and so there is not this huge lumpiness in the R&D relative to a new program?

No, I would say it has been in our numbers, and if you look, during the downturn, was one of our commitments to our shareholders is that we were going to continue to invest for the future, so we kept the R&D spending going. Now if we are successful like we anticipate we will be, after we secure contracts, there will be some more R&D spending.

Okay.

But in the meantime, we have got a very healthy staff working on it. We see some incremental spending, and we will see how well we can do securing those contracts.

Great. Thank you.

Gary Farber of CL King.

Yes, good afternoon.

Hi.

Just a couple of questions. Can you talk about what you are seeing in the major geographies?

Sure. Right now it kind of varies. I'm thinking through how this impacts each of our businesses. But overall we have heard a lot of the -- first off, let me back up a second. If you recall, many, many of our shipments are to US customers, and the real impact is where they are shipping those to afterwards.

So whether it is industrial turbines, aircraft engines, Caterpillar, Cummins, those guys are really US customers to us. But again, what we do believe is happening is China, Asia has had some pretty nice growth. Recently -- not recently, but they have continued on more of a growth path than the US and Europe has.

A lot of our long-cycle business customers are European based, so kind of by definition that side has been down. But almost all of our wind customers are European based, and the majority of those deliveries so far have been European deliveries. That will change significantly as we go forward next year. And then so US shipments may be some what misleading, that US growth has not been as robust as some of those other locations.

Great. Okay. And can you also discuss raw materials? Are you seeing any pressure on raw materials or are you expecting any as you go into fiscal 2011?

We are not anticipating any significant increase. I mean, we watch it closely. Exotic materials that we use in some of our combustion products and copper tend to be two of the ones that we've had volatility in the past. And at the moment we are not anticipating huge issues with that, so we are pretty well positioned going forward we think. And we have taken some contracts and long-term agreements with some of our suppliers and the like, but that would be volatility we would be watching for.

Right. Then on the Engine business, between long cycle and short cycle, when I look at the number you report for revenue in the quarter, can you discuss what is the mix in that number?

I couldn't give you a specific break. We don't really report below the engine number. But as we have kind of indicated, it is significantly weighted at this time to smaller engine as opposed to large engine.

Right, okay. And then just last question. It may be premature, but just as far as acquisitions, whether it's bolt-on or just various sizes or the flow of transactions that might be being put in front of you. Would you say it is slow or it is picking up or how do you see it?

I would say the M&A market is picking up. I guess we are seeing more things in the marketplace. We are very -- I would come back and say we are pretty disciplined on what we look at. It has got to be strategic. It would have to be something that fits one of our long-term strategies that we could leverage and fits our business model. But overall I would say, if you are asking a general question, overall I would say the M&A market is picking up.

Okay. Thanks again.

Peter [Mahon] of Dougherty.

Hey, guys, I just have two follow-up questions.

Sure.

Looking at the EPS margin and just wanted to say -- just wanted to ask about how you think that should rebound in Q4? Obviously with the increased deliveries and things like that in wind we would expect to see an increase in that margin, but what should we expect with the pricing pressure in the market right now?

One thing, if you look at our slide deck, maybe it is the first place to start with. We included a PowerPoint on anticipated margins for our four segments, and I always think that is the best place to start. And what we really think is our EPS business will get over the next couple of years back to that mid-teens margin, and that we could sustain that even with any pricing pressure in the industry.

So it is going to start recovering towards that, and it is going be a ramp as the volumes in the business go. That is the best way to look at it. And we kind of highlighted where we expect, over really say the next couple of years, where you can anticipate the margins out of each of our business segments to kind of settle in at in a normal period. And so hopefully that will help you. I think that is the best place to look.

Okay. Fair enough. And secondly, I just wanted to ask you about Q4 and Engine Systems. You talked about a sequential increase in all of the business lines. Should we be looking at -- or I'm sorry, Airframe Systems. Should we be looking at year over year increase in Airframe Systems?

No, I don't believe so. We're kind of quickly taking a look. I don't believe you will see a year-over-year.

It is really back to sequential (inaudible).

They are still struggling to get back to the prior where they were.

Got it. Perfect. Sounds great. Thanks a lot, guys.

Yes.

Tyler Hojo of Sidoti & Company.

Hey, just a couple of follow-ups here. How much more debt can you guys pay down from here?

There is a port -- some -- the larger -- the lion's share now of our debt remaining is not prepayable without penalty. We are in the, call it, $90 million range, a little bit less than that in terms of the part that is prepayable without penalty.

Okay. So how do you think about the penalty payments in terms of future debt reductions, or is that perhaps why you guys kind of re-upped the share authorization?

No, as I mentioned we really only did that just so we can remain in the marketplace periodically, but not as some signal that we are going change our overall strategy there. No, we would not -- I think your first question was how do we feel about the prepayments. No, we would not really entertain that.

We did structure the debt when we first took it on in what we believed was the most optimal mix. They are very low rate. We still do believe in spite of the current environment that longer term rates will increase. And so we believe that this sort of a base -- there is nothing wrong with holding this sort of a debt base.

Okay. That's definitely fair. And then I just wanted to get a little bit more clarification on actually both the Engine and Turbine System margins, but just to start on Engine Systems. I know the CNG bus orders tend to be pretty lumpy, and I know you commented that I guess something hit this quarter. I mean, first, I guess, is that correct? And secondly, I guess how do you look at that kind of aspect of the business on a go-forward basis?

Yes, I don't know that we would say we had anything of unusual lumpiness in the CNG. We did ship CNG orders, and they have been coming through for us. What we are really highlighting is the -- believe it or not, construction vehicles and in particular a lot of stuff going China and Asia have increased. Mining trucks, even though that is large, that is maybe the bright spot in the large market, have been increasing.

Marine, which is a big market for us, has been depressed. It is not going down any more. And going forward we had to see [ourselves go to] always mix issues. But I want to say going forward there could be future lumpiness in CNG just due to the historical ordering pattern, but we're not -- we have been working with customers to try to smooth that out.

Okay. Well, I mean it seems like a bunch of different guys on this call kind of going after you guys in a number of different ways. But I think the bottom line is it sounds like these margins are pretty sustainable here at this level?

Yes, I would go back, and if you look at Engine Systems --

Yes.

I will refer you to the slide deck, but we said 9% to 13% is what we expect to be able to sustain in that business. Through the downturn we structured that business and have repositioned, that we believe that we can hold those margins going forward.

Okay.

And we are already into that range in this quarter, and we expect to stay there.

All right.

And so that is kind of -- gives you kind of where we are targeting and what we think, if you want to use the word, the entitlement level of the market in terms of what we think we can make in that market. That is where we think we can be.

Okay. Good deal. Just lastly on Turbine Systems. Obviously the kind of like a good mix as you guys referred to it, or like a big pickup on IGT services has kind of helped you through the downturn. But how do you guys think about kind of the ability to kind of stay in your guided range when you start going to a little bit of a less favorable mix next year relative to kind of the OEM ramp that you guys have been talking about throughout the call? That's it for me, thanks.

Tyler, we are highly confident with the Turbine System margin range that we have out there. Because there will be more OEM, but there will be more aftermarket as well. So we model this and with even as you -- I always remind you guys as we go, I say new OEM sales come on board like say the GEnx, you get initial provisioning sales, then that turns into repair sales and parts sales. So through the life cycle you get a balance, and we think we are going to be able to hold margin through that period, so we are highly confident.

So you think there is a long tail just in terms of IGT services? Is that kind of fair?

The install base is huge from what happened during the bubble years. The turbines are being used. You are going continue to see that cycle through, along with the new ones going in and building aftermarket revenues. So what we maybe have accomplished, if you go over a 10 year period when we really made the big push about 10 years ago into the IGT market, is our installed base is substantial today. When we first started it wasn't. So now you have a substantial installed base which keeps a good steady aftermarket coming. It is a good position now.

All right. Thanks for all the great color.

Sure

Yes, thanks, Tyler.

Fred Buonocore of CJS Securities.

Yes, just a real quick follow-up. Can you give us some color maybe on what to think about in terms of comp expenses as we move into 2011? Just it sounds like you are expecting some pretty solid growth and improving results, and we definitely don't want to undershoot on comp expense if you have a lot of that that you think will be flowing back into your expense base. Thank you.

Yes, it definitely has an impact, no doubt about it. And we've noticed a number of other companies kind of calling out that as well. We have seen 18 months to two years here where incentive compensation hasn't really been in the picture much for anyone, us included. And as we returned to improving financial performance that aspect of compensation does definitely come into play.

It's very difficult -- obviously it depends on how we finish up our performance this year and more about how we see next year coming together, and although we tried to give a little bit of color this time to give you guys a feel for how it is going, we really are not prepared to talk more specifically than that. So all I can do at this time is tell you that it is a not insignificant impact, and we will probably be able to talk a little bit more about that at the end of the year.

Sounds great. Have a good night.

You, too.

(Operator Instructions). Mr. Gendron, there are no further questions at this time. I will now turn the conference back to you.

Okay, well, I appreciate everybody joining and all your questions today, and we look forward to going over our year end results with you in November and more detail on our 2011 outlook. Thank you.

Ladies and gentlemen, that concludes our conference call today. If you would like to listen to a rebroadcast of this conference call, it will be available today at 8.00 PM Eastern Daylight Time by dialing 1-888-266-2081 for a US call or 1-703-925-2533 for a non-US call, and by entering the access code 1469705. A rebroadcast will also be available at the Company's website, www.woodward.com for 14 days. We thank you for your participation on today's conference call and ask you please disconnect your line.