Eaton PLC Earnings Call Nuggets: Execution and Global Growth

Eaton Corporation (NYSE:ETN) recently reported its first quarter earnings and discussed the following topics in its earnings conference call.

Execution and Global Growth

Joe Stivaletti – Goldman Sachs: So Sandy, you just mentioned that 2013 is much more highly dependent on your execution and global growth. Could you just shed some light on where you see the greatest execution risk as you progress through the year?

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Alexander M. Cutler – Chairman and CEO: I guess I wouldn’t characterize them as risk, but I think we’ve got teams well around them, but certainly the integration of an acquisition of the size of Cooper industries is the one that is obviously at all of our target list. We also had acquired four other companies last year. So each of those five have to be successfully integrated that — I think the first quarter is a good indication of how well we’re doing on that. We’re very much on track and you may recall that we actually increased our guidance if we go back into February early March time period for what we expected to get from Cooper — the Cooper acquisition this year. Second, there are number of restructuring programs that we kicked off with the roughly $50 million of restructuring cost that we booked in the fourth quarter, those are also going quite well. Then the area that I’m particularly excited about, the vast array of new products that we are launching this year, and part of that is how we expect to be able to drive higher booking activities, and if I just was to pick a couple out of our electrical business this whole suite of lean automation and control solutions that are targeted machine builders often running well for those of you who want to handle fairly you really saw that reception there. Our new Xiria modular SF6 Free medium voltage switchgear, another big plus for those of you who (indiscernible) just as last week you saw us kick-off another LED platform with our – something we call wave stream, that’s the brand name for our new (edge lid) LED lightning products really offered at very attractive price range and really taking that technology into recessed lightning where it has not yet really penetrated. Then I would just end with just one other big one to be thinking about here and that’s what we have done to take – you’ve heard us talk about this really premier energy efficiency we have in three phase large, higher power applications we’ve now moved that down into a product line that’s much more sort of the mid-size, so it really brings that efficiency to the smaller data centers where there is fair amount of activity. So, I’d say those are the kind of the issues we’ve got our eyes on. In terms of execution I’d say they are off to a great start this year and I think our team well understands the market is not going to make the differences here it is really creating our own growth and creating sources of profit and that’s where these large acquisition really gives us an additional leg-up as many others because we’ve got a lot to work on while we can create additional profitability.

Joe Stivaletti – Goldman Sachs: And I guess in your prepared comments, one end market question you did talk a little bit about distributors use stock in U.S. and Europe and I am just trying to square that away with your commentary at the fourth quarter that you expect non-res – specifically U.S. non-res markets to be up 4% to 5% this year. So, help me understand those dynamics what’s occurring in the marketplace?

Alexander M. Cutler – Chairman and CEO: If you think about our electrical business having kind of two types of activity I am going to talk about how they flow through channels not the kind of products, those products that are stocked in distributor shelves a very healthy part of our business and one that we are really very pleased with the Cooper acquisition brought us an even bigger percentage of those kind of standard products, if you will, that’s what we saw in January and February in particular, fairly active destocking by distributors both here and in the U.S. Now, we think that’s partly was people readjusting to the fact that maybe the year wasn’t going to be kind of the year that some of our distributors thought it was going to be originally. Frankly, I think they have come back a little bit more to where we thought the growth rates were going to be this year, but I think – it’s so hard when you watch all of the issues of sequestration or other government challenges going on here in Europe, that doesn’t give distributors a lot of confidence about putting more, more inventory on their shelves. So, unlike many quarters, in the first quarter, where you see a rapid acceleration of sales quarter to quarter, we didn’t see as much of that this year. I would say on a non-residential side that tends to be a product that is non-stocked as much. That tends to be the assemblies business, if I could characterize it more. It’s bid to a particular job or transaction. There are pretty good bid activity and so that that distributor stocking as it doesn’t tend to hit as much. You’re exactly right, we did come into the year with a non-res forecast of roughly 4% to 5%. I think by then that always has been private put in place that we’ve talked about. I think the piece that everyone has got their eye on right now is, what’s the government, kind of, streams of activity and obviously with sequestration in place we think that that’s a bit of a negative. So, when you look at the total non-res, which should be government and private put in place probably a number that’s more like 3% to 4% versus a number that’s like 4% to 5%, but I would say frankly that’s tuning that – sometimes that type of tuning doesn’t really change things that much for us.

Donald H. Bullock Jr. – SVP-Communications: David Raso, ISI.

David Raso – ISI Group: Just trying to think to be implied second half growth and also a question on the model on amortization of intangibles. Just trying to think about the growth in the second half of the year, seems to be implying high single-digit, low double-digit, and I just backed into that based on what you just said first quarter to second quarter on core volume. So can you help us understand if I’m doing that properly? I can completely appreciate the vehicle business truck being up a lot year-over-year in the second half, and maybe Hydraulic to some degree as well. But can you help us walk us through that second-half acceleration of growth, maybe try to nail down a little bit more what you’re expecting from the Electrical businesses in the second half, maybe Aerospace.

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Alexander M. Cutler – Chairman and CEO: Sure I think the way to think about this. If you take our first half, the $0.84 in the midpoint of the $1.10, that’s a $1.94. Then if you subtract that $1.94 from the $4.25 you get $2.31 in the second half. So roughly 46% of the earnings in the first half 54%, in the second half, I think you’d find that’s within about 2% of what we’ve generally run most years if you go back. Of that $0.37 increase in the second half, roughly $0.17 of it comes from the Cooper synergies, and that’s the difference between the first half and the second half, I told you it would be slightly and this is when I say Cooper synergies it’s that entire balance of $0.15 for the year, so that’s got amortization, that’s got increased shares, that’s got the interest cost, it’s got all that in it. So you get a little bit of a negative on that in the first half, you get roughly $0.17 from the second half, so now you’re dealing with $0.20 difference half to half if you will. The largest portion of that $0.20 difference then comes from the acceleration, specifically on the North American heavy-duty side because our forecast of 15 million retail sales for light vehicle here in North America hasn’t changed much. We came into the year thinking that the European automotive market would be only down maybe 2%, we think that’s likely to be more like 6 and a 7. So that’s kind of taken away any plus you find in the automotive side of that marketplace. So I’ll come back to that, so you come back to the heavy duty truck and then you come back to the seasonality here you tend to get that electrical business, as I mentioned it tends to kind of come up that 7.5% is not a bad number for that business, it kind of comes up to that second level – excuse me second quarter and third quarter being relative similar and then comes off just slightly in the fourth quarter. So, and then last I would say the hydraulics business which we believe but we can’t certify, obviously, that we are seeing the bottoming of this bookings activity and if we are right in that regard we are going to start to see some volume pick up there. Aerospace, we’ve assumed not a lot of volume change, but it is pretty – I think drop through to the bottom line it is not a substantial difference. So, I think you are really looking at vehicle, hydraulics and electrical as being those three drivers…

David Raso – ISI Group: I do appreciate that. But maybe, Rick, just help me to make sure I have these numbers right. The core volume was down $190 million in the first quarter, correct?

Richard H. Fearon – Vice Chairman, CFO and Planning Officer: Roughly, yeah, and that’s core Eaton, yes.

David Raso – ISI Group: And if I grow that 425 million at 2Q that means 2Q will give me about positive 130 year-over-year on core? So, I go into the second half of the year in the whole about 60 million to try to get to the full year core revenue growth guidance of 900 million. So, baseline yield of core growth in the second half at the 900 million and I understand some of the businesses year-over-year just they are going to grow a lot more in the second half than we are seeing in the first half. I am just making sure I understand the core growth dynamics in the second half of the year?

Alexander M. Cutler – Chairman and CEO: I think, David, maybe we got to go offline to kind of work through all the specific numbers. I am trying to give you the overall where we are, we would be glad to do that subsequently.

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David Raso – ISI Group: Then lastly the amortization question the 107 million in the first quarter was just a little higher than I would have thought. Can you help us think that through the rest of the year on a full year number?

Alexander M. Cutler – Chairman and CEO: We continue to think the number is in the neighborhood of $420 million for the full year. So, it will be at this level or maybe just a little bit under this level in some of the later quarters.

Richard H. Fearon – Vice Chairman, CFO and Planning Officer: And that’s not any different than we indicated in our earnings conference call.

Donald H. Bullock Jr. – SVP-Communications: Julian Mitchell, Credit Suisse.

Julian Mitchell – Credit Suisse: Yeah. I guess just firstly on China, I remember, you’d mentioned on the earnings call in January that you’d seen some encouraging order intake activity, looking around other companies that have reported, it feels like some sort of domestic focus, stuff like construction’s a bit better, but stuff that’s tied more to export, like factory investment, industrial output is still very weak. I just wondered what your update was on China….

Alexander M. Cutler – Chairman and CEO: Your memory of our comments is exactly right. We had talked about specifically on our Hydraulics business in January, which is one of our insights into the construction equipment business there and in China, the things have ticked up in China, I’d say unfortunately they ticked up and kind of stalled in China and so we like others would, I think characterize China as not recovering on the pace that it looked like it might have starting off beginning of the year, it is beginning to recover and 7.7% GDP growth is nothing to sneeze at, but it’s not the 10% to 12% everyone would love to see. Our own business in China, if you look at our actual shipments for China in the first quarter were about flat, when you go with a year ago, but when you go within it, I think more instructive is that the vehicle businesses are up pretty nicely and so you saw a pretty good quarter of activity there. I would say that most of the infrastructure oriented businesses be that our electrical or our hydraulics businesses were off just slightly in terms of the shipment and all that brings the other to be roughly flat. So I think our assumption for this year on China of roughly an 8% GDP increase, feels about right to us, but it’s not accelerating really, really quickly.

Julian Mitchell – Credit Suisse: Then just within the Electrical Systems and Services segment, you obviously had a very, very nice margin jump in Q1 and the margin in that segment in Q1 was sort of already slightly above your full year target. I just wondered if there was anything in terms of seasonality that we need to be aware of or if you could give any sense of what the base full year margin in 2012 for the Systems and Services was.

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Alexander M. Cutler – Chairman and CEO: In 2012. Our challenge in 2012 is giving at you with both Cooper and with Eaton and that’s what we can’t at this point. What I could tell you because obviously it is a noticeable change between the 9.2% we reported last year, which was the traditional Eaton businesses and the core teen one now is that with just the Eaton products and that’s where we’ve got consistent data, we saw a several point increase in margins and that’s some of the work we’ve been doing in terms of continuing to work on productivity and introduce new products and so this isn’t simply a mix change of having added in the (indiscernible) and the power systems business into that segment. So, we’re really pleased and we think that is quite sustainable. So when we look at that full year number obviously we have a 14% margin, we started off the first quarter, which typically is a little weaker with a very strong quarter. Now it’s also a reflection of the fact that you recall the really outstanding bookings versus market demand that we had in the second, third and fourth quarter. So you’re seeing us come right out of the block with obviously being a little shipped from this very strong backlog.

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