Eaton (ETN)

Q3 2011 Earnings Call

October 24, 2011 10:00 am ET


Alexander M. Cutler - Executive Chairman, Chief Executive Officer, President and Chairman of Executive Committee

Richard H. Fearon - Vice Chairman and Chief Financial & Planning Officer

Donald H. Bullock - Senior Vice President of Investor Relations


Andrew M. Casey - Wells Fargo Securities, LLC, Research Division

Robert F. McCarthy - Robert W. Baird & Co. Incorporated, Research Division

Jamie L. Cook - Crédit Suisse AG, Research Division

Joshua C. Pokrzywinski - MKM Partners LLC, Research Division

Jeffrey D. Hammond - KeyBanc Capital Markets Inc., Research Division

Eli S. Lustgarten - Longbow Research LLC

Jason Feldman - UBS Investment Bank, Research Division

Andy Kaplowitz - Barclays Capital, Research Division

Ann P. Duignan - JP Morgan Chase & Co, Research Division

Terry Darling - Goldman Sachs Group Inc., Research Division

David Raso - ISI Group Inc., Research Division

Stephen E. Volkmann - Jefferies & Company, Inc., Research Division



Ladies and gentlemen, thank you for standing by, and welcome to the Eaton Corporation Third Quarter Earnings Call. [Operator Instructions] And as a reminder, today's conference is being recorded. I would now like to turn the conference over to your host, Senior Vice President of Investor Relations, Mr. Don Bullock. Please go ahead, sir.

Donald H. Bullock

Good morning. Welcome to Eaton's Third Quarter 2011 Earnings Conference Call. Joining me this morning are Sandy Cutler, Chairman and CEO; and Rick Fearon, Vice Chairman and CFO. As has been our practice, we will begin today's call with comments from Sandy, followed by a question-and-answer session.

The information provided on our conference call today will include forward-looking statements concerning the fourth quarter 2011 and full year 2011 net income per share and operating earnings per share; fourth quarter and full year 2011 revenues; our worldwide markets; our growth in relation to end markets; and our growth from acquisitions. Those statements should be used with caution and are subject to various risks and uncertainties, many of which are outside the company's control. Factors that could cause actual results to differ materially from those in the forward-looking statements are set forth in today's press release and related Form 8-K filing.

As a reminder, we've included a presentation on the third quarter results, which can be accessed on the Investor Relations web page. Additional financial information is available in today's press release, which is located on Eaton's homepage at

At this point, I'll turn it over to Sandy. Sandy?

Alexander M. Cutler

Thanks, Don, and good morning, everyone. I hope you've all had a chance to pull up the earnings release presentation. I'm going to work from that here on our call to kick things off. I'm going to move right to Page 3, the highlights of the third quarter.

We had really a terrific third quarter. I think you've all seen many of the numbers, revenues up 15%, EPS fully diluted numbers up to 37%. And so when you look within that and we think there are 5 or 6 noteworthy points we want to share with you.

First, the operating earnings per share of $1.08 were an all-time record, eclipsing the previous record of the second quarter 2008 when revenues were still about 4% lower than they are today, and we think that really reflects the improved cost structure and the stronger margins across the company, as well as a lot of the diversification work that we've been doing.

Also, record net income per share of $1.07. Sales for the third quarter were $4.123 billion. Sales up 15%, as I mentioned, from a year ago. End markets up about 11%. And now about 20% -- 27% of our revenues coming from emerging markets, and that's a year-to-year increase of about 20% in emerging markets.

Really pleased with the record segment margins of 14.6%. That eclipsed the previous record of 13.9% last quarter. It would have been 15.2% without the commodity hedge mark-to-market cost. We'll talk more about that. And we think very significantly on a year-to-year basis, that's a 35% incremental when you don't include the ForEx and acquisitions and the mark-to-market numbers. So very much, off the top end of the range we have been targeting this year.

Quarterly operating cash flow of $642 million, just missing the all-time record of $644 million in the fourth quarter 2008 And what's particularly significant about that as we'll all recall, in 2008, we were running off working capital as volumes were declining. We're now in a period of time when volumes are still increasing.

And then finally, we repurchased 2% of the outstanding shares in the third quarter. That's about $275 million we spent doing that, about 7 million shares that we bought back at a price of just over $39 per share.

If we turn to Page 4, talk a little bit about the third quarter guidance that we had provided as well as in our actual results. You recall that we've increased guidance 3x this year, the most recent was the $0.10 increase for the second half of 2011, which we outlined in our July earnings conference call. So against that increased guidance, we hit the midpoint of our guidance. We mentioned that having bought back shares, there was a slight benefit of that, about $0.01. Our overall cost controls contributed about $0.01. We had a lower tax rate. We'll talk a little bit more about that later, about just over 15% versus the 18% that we had guided to for the quarter. Then the commodity hedge losses of the mark-to-market, about a $0.06 negative, about $23 million in total, and that leads to the $1.08.

If we turn to Page 5, a couple of highlights here. Again, the 15% increase in sales; the 36% increase in net income; on an EPS basis, there was 37%. If you look to the left hand, just to start there in the left-hand box, the slightly blue box, market growth of 11%. In the first quarter, you recall, was 14%; second quarter, 12%; market growth of 11%. This is pretty much in keeping with what our view has been as we came out of a big rebound year in 2010. We're in a transitional year in '11 when you're starting to see the rate of growth start to decline but still attractive growth. We'll talk more about 2012 outlook as we head a little later in these presentations.

The third quarter revenues of 4.1% versus the 4.090% in the second quarter, up about 1%, 1% sequential second quarter to third quarter. Without the ForEx change, that would've been about 2.5%, which is pretty much in line with what you see our normal second to third quarter. And that ForEx impact was about $60 million negative in terms of how it impacted our revenues in the third quarter compared to the second quarter.

Strong segment profit, as you see. And again, if you step back to the ForEx numbers in that blue box, in the first quarter this year, it contributed about 2%. In the second quarter, it's 6% and then, the third quarter, 2%. And that really gets back to that $60 million difference quarter-to-quarter.

If we go to Chart 6, a really strong quarter for our Electrical Americas segment. As you can see, sales up 11%, operating profit up 11%, record all-time quarterly revenues. Again, let's remember that's the time when the non-residential market is clearly not back to the heights that we saw during the last peak. Bookings up an outstanding 21%. Really, really delighted with the strength there. Our backlog up 15% to all-time record at this point. And we are convinced the non-residential markets have bottomed and are starting to show a modest growth, particularly in the non-commercial segments. But even in portions to commercial segments, we think there is the beginning of some good news there. Then adjusting for the mark-to-market commodity hedge cost of about $11 million, the operating margins would have been on the order of 15.8%. So really, a very strong quarter, we think, setting this business up for both the fourth quarter and for 2012.

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