Emerson Electric Co. (EMR) Q2 2010 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Emerson Second Quarter Fiscal 2010 Results Conference Call. [Operator Instructions] Emerson's commentary and responses to your questions may contain forward-looking statements, including the company's outlook for the remainder of the year. Information on factors that could cause actual results to vary materially from those discussed today is available at Emerson's most recent annual report on Form 10-K, as filed with the SEC. At this time, Emerson's management will discuss non-GAAP measures about the company's performance, and the reconciliation of those to the most direct comparable GAAP measures. Content within this presentation is posted on the Investor Relations of Emerson's website at www.emerson.com/financial. I would now like to turn the conference over to our host, Lynne Maxeiner, Director of Investor Relations. Please go ahead.

Thank you, Luke. I am joined today by David Farr, Chairman, Chief Executive Officer and President of Emerson; and Frank Dellaquila, Senior Vice President and Chief Financial Officer. Today's call will summarize Emerson's second quarter 2010 results. A conference call slide presentation will accompany my comments, and is available in the Investor Relations section of Emerson's corporate website. A replay of this conference call and slide presentation will be available on the website after the call for the next three months. I will start with the highlights of the quarter, as shown on Page 2 of the conference call slide presentation. Second quarter sales were up 1% to $5.1 billion. Underlying sales declined 6%, and underlying sales in the quarter were positive in Climate Technologies and Appliance and Tools. Operating profit margin was 15%, up 90 basis points. We saw a nice increase in business segment EBIT margin, which was up 340 basis points to 14.8%. Earnings per share from continuing operations attributable to Emerson of $0.54, up 10% compared to $0.49 in the prior-year quarter. Another quarter of strong operating cash flow, $632 million, and free cash flow of $543 million. Our free cash flow to net earnings conversion was 134%. Solid trade working capital performance, with trade working capital, as a percent to sales, improving to 17.5%. Slide 3, the P&L. Again, sales up 1% to $5.144 billion. Underlying sales declined 6%, acquisitions added four points and currency added three points. Operating profit in the quarter of $770 million, or 15% of sales. The increase primarily driven by cost reduction benefits. We had a negative impact from the strong increase in stock price and one year overlap for retention purposes of two stock compensation programs. Net earnings, up 11% to $414 million. Diluted average shares in the quarter of 757.4 million. We repurchased 0.6 million shares for $27 million in the quarter, which leaves you with an EPS from continuing ops of $0.54, up 10%. A negative $0.01 impact from discontinued operations related to the LANDesk business leaves you with a reported EPS of $0.53. Next slide, underlying sales by geography. First, in the United States, sales declined 3%; Europe was down 18%; Latin America, down 12%; and Middle East/Africa was down 13%. Asia continued to grow and was up 5%. Total international was down 9%, which gets you to a total underlying sales decrease of 6%. Again, currency added three points and acquisitions added four points, getting you to the consolidated sales growth of 1%. Slide 5, some income statement detail. Gross profit dollars of $2 billion or 38.9% of sales, up 280 basis points. The improvement driven by cost containment programs, restructuring benefits, acquisitions and favorable new product and innovation mix. SG&A, up 23.9% of sales, which brings you to operating profit of $770 million or 15% of sales. As previously indicated, we had a negative impact from the stock price change, as well as the overlap of two stock compensation programs. Other deductions, net of $92 million, which includes lower restructuring, lower currency transaction losses and lower bad debt expense, which was partially offset by increased acquisition amortization and lower one-time gains. Interest expense of $67 million in the quarter gets you to the pretax of $611 million or 11.9%. Taxes in the quarter of $184 million, for a tax rate of 30.1%. The tax rate is estimated at approximately 30% for the fiscal year. Next slide, cash flow and balance sheet. Operating cash flow continues to be strong and was up 27% in the quarter to $632 million, driven by working capital benefits and higher earnings. Capital expenditures of $89 million. We're keeping the capital tight until the recovery absorbs excess global capacity. Free cash flow of $543 million, up 52%. The trade working capital balances at the bottom of the slide show our strong improvement in our trade working capital to sales ratio at 17.5% in the quarter. Next slide, the business segment P&L. Business segment EBIT of $788 million or 14.8% of sales, a strong increase of 32% or 340 basis points, the improvement driven by cost reduction benefits and lower restructuring costs. Difference in accounting methods of $49 million, corporate and other of $159 million. This includes the negative impact from the strong increase in stock price and one-year overlap for retention purposes of two stock compensation programs and totaled $72 million, and lower one-time gains, $25 million, gets you to the earnings before interests and taxes from continuing ops of $678 million. Interest expense of $67 million, up $18 million, the increase driven by the change in debt mix. We issued $1.35 billion of long-term debt in the last 12 months, which gets you to the pretax line of $611 million. Next, we'll go to the individual business segments, starting with Process Management. Sales in the quarter of $1.428 billion, down 5%. Underlying sales were down 13%. Acquisitions added four points and currency added four points. By region, the U.S. was down 5%, Asia was down 13%, Europe was down 19%, and Middle East/Africa was down 6%. The underlying order trends turned positive in the quarter. We saw improvement in MRO, mainly in power and chemical end markets, as well as oil and gas and nuclear end markets. EBIT dollars were $241 million or 16.9% of sales. While the margin was negatively impacted by volume deleverage, we realized the benefits from our significant cost reduction and restructuring efforts. Recently, IEC unanimously voted to certify WirelessHART technology as the first global wireless standard. Emerson customers are currently using WirelessHART in over 1,200 global installations. Next slide, Industrial Automation. Sales in the quarter, down 10% to $867 million. Underlying sales were down 16%, currency and acquisitions each added three points. By geography, the U.S. was down 18%, Europe was down 19% and Asia was up 8%. We saw growth in the Electrical Drives, Fluid Automation and Electrical Distribution businesses. And while still negative year-over-year, the Alternator business is starting to turn. EBIT in the quarter of $94 million or 10.7% of sales. We were able to deliver flat EBIT margin, despite significant volume decline and increased restructuring. The volume deleverage and higher restructuring was offset by cost reduction benefits. Order trends turned positive in the quarter, and were up 10% to 15%. Restructuring efforts are ongoing to continue to strengthen the competitive position. Slide 10, Network Power. Sales in the quarter, up 4% to $1.351 billion. Underlying sales were down 6%. The Avocent acquisition added seven points and currency added three points. By geography, the U.S. was down 3%, Asia was up 2% and Europe was down 20%. We saw growth in the Embedded Power business and moderate declines in the Uninterruptible Power Supply, Precision Cooling and Telecom Energy Systems businesses. EBIT margin, up 47% to $157 million, the margin improvement driven by benefits from cost reduction actions. Also, restructuring decreased $21 million versus the prior-year quarter. The restructuring actions in 2009 strengthened our global best cost position. Next slide, Climate Technologies. Sales in the quarter of $908 million, up 24%, with underlying sales up 19%, acquisitions adding three points and currency adding two points. By region, the U.S. was up 13%, Europe was down 11% and Asia was up 67%. The growth in Asia was driven by well-structured China stimulus programs. EBIT dollars of $163 million or 17.9% of sales, driven by volume leverage, cost reductions, benefits from prior-year restructuring and price/cost management. The new energy efficiency regulation in China is expected to be implemented June 1, 2010, but we're already seeing the benefits in orders and sales now. The China market has already had sizable shift to these higher efficiency levels via the stimulus programs that have been in place. Slide 12, Appliance and Tools. Sales were up 4% to $760 million. Underlying sales grew 2%, and currency and acquisitions each added a point. By geography, the U.S. was up 3%, Europe was up 4% and Asia was up 9%. EBIT of $133 million or 17.4% of sales. We had nice margin improvement, driven by leverage on higher sales volume, based on our aggressive cost reduction programs over the last three years, restructuring benefits and lower restructuring expense. In the quarter, we saw solid growth in the Tools business. While consumer demand is so tepid, the demand is improving off a very weak two-year base. Next slide, the summary and outlook. Market conditions have improved in the second quarter. Underlying sales decline moderated to 6%, and orders and sales are trending slightly better than expected since our February Investor Conference. Underlying order trends have turned positive for all five business segments. Cash generation remains strong, and we have significant new product innovations and introductions underway. Our operating profit margin is showing improvement from our aggressive cost repositioning efforts, and we absorbed approximately $50 million increase in stock compensation expense, due to the stock price changes versus the prior-year quarter. We now expect underlying sales to be flat to down 3% and net sales, up 2% to 5%, to $21.3 billion to $21.9 billion for the fiscal year. Also, operating margin, 15.7% to 16%; earnings per share in the range of $2.40 to $2.55; operating cash flow of $2.9 billion to $3.1 billion; and free cash flow of $2.5 billion to $2.6 billion. So with that, I'll turn it over to David Farr.

Thank you very much, Lynne. I want to welcome everybody here this afternoon. Thank you for joining us. I appreciate it. First, I would like to thank all the business leaders, the presidents and the global operational people for delivering and executing a very strong quarter. With underlying sales down, we were able to deliver up earnings; up margins; strong cash flow and strong returns; and we have strong momentum going into second half, with our global orders turning up nicely. This was a very strong operational quarter, with excellent participation and contribution across all the businesses. They all had a major contribution in delivering the earnings and the cash and making this a stronger company, as we move into the second half. As I look at the second half right now, and I look at our profitability, the orders, the sales and the cash flow, we are well positioned. And I would like to remind people on the phone that Emerson does not, and I mean, does not, give quarterly sales profit EPS cash flow forecast, and we have not for eight or nine years. We give you our best trend line assessment. We give our global market assessment of our businesses, and we give you an expected range for our total year where we're looking at what's going on across the business. We are very much focused on investing and executing for a one-year, three-year, five-year window to create long-term value for our customers, our shareholders, our employees. So we do not manage earnings and expectations or bogeys for our quarterly target. We've managed for the long term, and we invest accordingly and we execute accordingly. And people know that of me since I've been CEO for almost 10 years. As I look at where we sit right now, I feel very positive about our order trends. I look at our new product, our innovation. I look at the introductions we have going on right now. I look at the profit improvement. I look at the restructuring and the new products. Everything is kicking in and working extremely well. The order pace is strong. And I clearly have concerns about other parts of the world. And I'll talk about that a little bit, but right now, where we sit, we are slightly ahead of where I expected, both from a top line standpoint and a profitability standpoint, as the global personnel are executing extremely well on the issues and challenges we face across the world. We have increased our global personnel by a little bit over 6,000 people, on a reported basis, which does include some acquisitions. We're flat or slightly up couple of hundred people in the U.S. Western Europe, we were down. And the best cost parts of the world were up significantly, as we continue to grow and invest in our emerging markets. That's where our strong growth is, as we look at it, going forward. As I look at the world today and I look at where we sit from a global economy, I see the U.S. economy improving. I personally believe the U.S. economic numbers will slow down a little bit, as the second half emerges here. I think that businesses will continue to improve their spending, but at the same time, I think you'll see some of the back off of the government spending, and that will unwind a little bit. So I see a reasonable second half to the economy in U.S., but not accelerating U.S. global economic growth. In Western Europe, I remain very concerned about what's going on with the excessive debt levels, with the excessive spending, bailouts and the impact of what that's going to have on the European economy. I think the European economy will grow in 2010, but the growth will underperform what we see in the United States. So if I'm looking at 3.5% in the U.S. for growth, somewhere between 3.2% to 3.5%, I'm looking at under 2% in Western Europe because of what's going in that country at this point in time. So I look at Latin America, those markets continue to improve, and we will see a better economic scenario for our Latin America business in the second half. Asia has continued to grow nicely, and I expect that to improve a little bit, as we go into the second half. China, I've always felt all along, would be somewhere in the 12% to 14% growth for us for the whole year. You can't look at a quarter, because we have some projects that move in and out. But we've had a very good start in China, and I will expect that to continue. We are seeing the impact of some of the dollar back of the stimulus money, because the economy China has been so strong. That's not unexpected. So I still said expect us to do pretty well, as we move into the second half of 2010. So overall, as I look at where we sit today, based on the orders, our underlying sales were down, I think, around 14% in the first quarter. We are down 6% in the second quarter, which we just reported. In my opinion right now, based on the order trend, our underlying sales will be up in the 5% to 7% level; in the 6%, 7% level in the second half of this year. And our order trends right now will support that. We are well structured for growth. We are investing the strong profitability levels we're generating right now. We are investing in the emerging markets. We're investing in new products. And we're positioning ourself for, what I would call, a slow, steady recovery. As people look at it, yes, it's a v, but it is, what I would call, a muted v or a slower v. It is definitely a recovery. But you've got to keep in mind, we went down a long way, as many people did in this world, and it's going to take time to recover where we came from just in 2008. Our position is very strong right now, from a profitability standpoint, a cash flow standpoint. The operating people are executing extremely strongly on our trade working capital, from receivable management, from inventory management. We are setting record levels of performance here, as you saw in this quarter. And I would expect that we'll have a very strong performance in the second half, hence, our improvement, relative to our operating cash flow and free cash flow. As I look at our capital spending rate, we probably bottomed this quarter. As I look at it, and then we'll slowly increase it. We have plenty of capacity around the world right now, given the fact that we were a $25 billion company in 2008, and we're going to be less than a $22 billion company in 2010, tells me I have capacity. But as I look forward, quarter by quarter by quarter, our underlying capital spending will start to improve from this quarter, but still will be most likely down versus prior year, and will be a very slow gradual recovery, as we move into 2011. We do not need the excess capacity to be investing right now, because we have productivity, we have repositioning around the company and the company is performing extremely well. I would like to comment one more time on the operation and corporate people around the world. This was a very strong quarter. If you look at it from top to bottom, this was very strong execution and people did a great job. And many of these people had still down sales versus prior year, yet the restructuring and the actions they're taking to improve this corporation were significant. And the Board and the CEO and the OCE truly appreciate it, and I want to thank them all for making that happen. One last comment before we open the lines is relative to Chloride. For many of you that may know Hogan's Heroes, I used to watch that when I get home from school, and Sergeant Schultz would say, "I know nothing." I cannot comment on Chloride. We are controlled by the U.K. takeover panel. So don't ask because I will not tell. Don't ask. Don't tell. Hogan's Heroes. So with that, open the floor to questions. But again, I want to thank everyone around the world. It was a great quarter, a strong quarter. We are well set up for a strong second half and continued recovery, and I feel very good about where we are today. Thank you.

[Operator Instructions] Your first question today comes from Steven Winoker of Sanford Bernstein. Steven Winoker - Sanford C. Bernstein & Co., Inc.: First question is around the March exit rates for underlying sales on Process Management. Obviously, up 10% plus in that March number means that you have a real accelerating rate there. What is going on, in terms of projects? I mean, how lumpy is this? And were there any special one-time things going on right now?

As you well know, the Process business is clearly a lumpy business. And as I look at it right now, my expectations, I laid out early in the year and late last year because I expected things to be much weaker in the Process business. The orders are coming back around the world, and I would expect the trend line to continue to improve. I still do not expect positive underlying sales growth in the Process business this year. It will start happening in the first quarter of next fiscal year. However, it won't be as negative as I originally thought. But the business -- and when I look at the MRO business, I look at the chemical industry business, I look at some of the oil and gas businesses, people are spending. The larger projects, there are some big ones out there. They are happening. And you're winning some, you're losing some. But right now, I look at a fairly steady improvement in the Process business. I like the recovery. It's happening probably six months sooner than I thought. Steven Winoker - Sanford C. Bernstein & Co., Inc.: And then could you expand a bit on China? I know it's only one quarter, as you had mentioned, but could you give us a few more numbers, a little bit more detail across the businesses? In terms of -- beyond Climate, also, what you're seeing?

Yes, I think that's up. If you look at our -- I'm going to get much easier. If I look at the various businesses relative to China, our Industrial business are starting to recover. They are obviously less positive than Climate Technology, but they are recovering. Our Process business in China is clearly going to be later-cycle recovery. It's going to take a while for that to get back to where it was. If I look at the Network Power business, it's still okay. They were extremely strong last year, and they were getting a lot of the Chinese stimulus money. That's coming back off, so their comps are much harder. So that will be a more challenging second half for us. But across the businesses, I would say that we're going to do okay in China. The Network Power will be the most challenging, from a comp standpoint. Process will get better, as the year goes on. The Industrial has definitely gone positive. And I look at the Climate Technology will drive this for the next six months. But in total, I feel pretty good about China. I still think we're going to do somewhere between 12% and 14% underlying sales growth. Steven Winoker - Sanford C. Bernstein & Co., Inc.: And then finally, before I pass it on, am I correct in sort of looking at the backlog and assuming that a very, very small part of that backlog is exposed to projects in Southern Europe to your earlier comments?

Very small. Very small.

Your next question comes from Terry Darling of Goldman Sachs.

Dave, wondering if we could follow up a little bit on your comments on orders and organic growth. We've seen a nice acceleration in the orders, particularly in Industrial Automation and Process. I'm wondering, characterize for us where you see those rates going over the next couple of months? Presumably, March, very strong versus February and January. You had some down 25% or 30% months last year. I mean, looking out three, six months, are we going to see those numbers in that 20% to 30% range, you think?

I mean, I'm not that -- I wish I was that good. I wouldn't be in this job, I'd be a gazillionaire, betting on other things. But we, clearly, right now, are coming into the weakest pArt, if you look at our order trend lines. This month and next month are a bottom, so I would expect this to continue to trend up and move into -- I mean, I feel comfortable saying it's going to go in the 10%, to 15% to 20% range because of the comparisons. But I don't think it's going to be as strong as you have said. I think it's going to be gradual, which is going to be a better situation for us to manage at this point in time, from operational too, because it's easier to digest that type of growth. But I don't see that type of acceleration you're thinking. I'm thinking [indiscernible] (31:49), but I don't think it's what you're talking about.

And kind of kicking that in to the discussion on second half organic, you mentioned 5% to 7%, or 6% to 7% in that range. Presumably, you're thinking of well below that for 3Q and a little bit above that in 4Q. Is that the way to think about it?

Yes. If you look back at last year, the third quarter and the fourth quarter underlying growth rates were pretty negative. Pretty close to negative 20%, and expect that to improve, as we go forward.

Maybe I missed it. Can you true us up on restructuring expense by segment here? Is that -- you're still...

I won't do it by segment, but I don't have those on numbers at my hands, but the restructuring number we've been saying -- Lynne, help me. We've been saying $150 million to $175 million. But right now, I would say that the $175 million is going to be too high from that standpoint. I would say, we'll probably be somewhere around the $145 million to -- I'm giving my -- $165 million, $170 million. I think they're going to be -- as improvement happens in our sales, I think we'll start trending down towards a lower number. What I mean is that we'll have a little bit more in the first half of next year. But last year, we did $300 million. So if I was going to pick a point number, I'd pick pretty close to $150 million.

Then just trying to think about that comment, in context with what you're saying on what's happening with incremental guidance, as implied by the change in your guidance for both operating margin and revenues. So essentially, you're taking the margins up 50 basis points, you're taking revenues up 300 basis points at the midpoint of those ranges, kind of 30-ish percent incremental margin or your lowering restructuring expense for the year. Is that just to create a conservative element on those incrementals? Or is there a mix effect in there? Or are you worried more about pricing deteriorating in the back half? What...

I'm not worried about pricing. I always keep an element of -- I'm not supposed to swear, but whatever happens, I was going to say, "Oh s", but if something bad happens. So I mean, as I look at the forecast right now, if everything clicks like we're seeing clicking right now, our EPS will move towards the higher end. It's clear, based on what we just said.

Your next question comes from Nigel Coe of Deutsche Bank.

So I just wanted to just, I guess, concern on the corporate expense. The mark-to-market effort posed a one quarter impact that will exceed the corporate expense. Now I realize, you got an overlap this year, but the spike up this quarter was less than one-off impact.

The one-off impact has to do more with the change in stock price. The fact that in second quarter this year, the stock rose $8, versus second quarter last year, it went down about $8. So you have that divergence, which caused that $50 million swing. Now obviously, the stock price fluctuations will impact every quarter. It does. But you get into a situation, once you hit third quarter, where stocks were going up last year, including Emerson. So you don't have that same delta impact.

It looks like your original guidance with $100 million headwind, now $150 million. And I'm not going to ask for 2011 guidance or anything else, but as we go into 2011, we're going to a single plan. Should expect maybe $100 million, maybe $150 million tailwinds in 2011?

It's going to be less that. I mean right now, if I was factoring in a number I'll be looking at a total, everything I'd see right now in a range. I'm going to give you a broad range because it's kind of early, Nigel. But I would say we're going to have a tailwind of $50 million to $150 million next year.

The margin performance is pretty impressive, Dave. I mean 15% to 16% this year. You've got an 80 basis points pension in corporate expenses. Underlying, therefore, 15 5 to 16 8 on an apples-to-apples basis, what does this mean? You certainly had lesser days, 17% plus next cycle. What you think at this point in time?

I still think that 17% plus for next cycle is good. The issue right now is at anytime there when recovery come at and the restructuring we've done, we will have higher incremental margins. And the issue for me right now, working with the business leaders and Frank and Ed Monser work on the businesses, as we need to start picking up our incremental investments or we will generate higher margins right now. And then we'll have less margin improvement next year. Do you understand? So we're investing right now, and we're encouraging people to invest something, particularly in emerging markets. And so the next-generation new products continue to aggressively invest because right now, the flow-through profitability in the company is running at peak performance, and it will continue to do that especially as the underlying sales goes from negative to positive. And I want to make sure we invest for the future. We could clearly maximize this year and write that profit margin way up, but then we will hurt our long-term project, I think profitability and growth prospects. So we're going to trade off right now. We're going to continue to grow, and we're going to continue to make pretty good margins. I want sort of try and invest some of that money as we're coming out this early cycle for 2011 and 2012.

I know that some of these long-cycle businesses are difficult to forecast on a quarterly basis, but it look like, if we adjust for Avocent, that online sales declines from 1Q and 2Q, it seems to me that's quite an unusual trend. Was there anything to call out there, especially given the order trends we've seen in that business?

Network Power China had a phenomenally strong first fiscal quarter for us. The way our mix of business is right now, we are clearly having different types of cycle going on across our Electronics business. We are actually having problems, electronic components, in the semiconductor area, the semiconductor capacity was taken down so hard that we're struggling right now, getting components and shipments. Our sales would've been higher in the Network Power area if we had electronic components. And I think this is going to happen for the rest of this calendar year. So where we are right now is -- Network Power's recovering, but it's been damaged a little bit by or held back a little bit by the electronic components issue.

And that's the only area where you've seen supply chain constraints?

Yes. Of anything of substance, I mean you can measure.

And your next question comes from Bob Cornell of Barclays Capital.

Just following with Nigel's question, it looked like Network Power margins sequentially were a little softer than I thought. You didn't break out specifically what the Avocent impact was, what the $0.02 we expected or a little more than that?

No, it's not any more than that. The issue was we tried to warn people in February the way that Avocent came in, so we warned everybody. I can go back and get the transcript, I know I said it twice, is that we had one month of Avocent, it was the best month, December. It was very good. The cost of amortization kicked in, in the second quarter full cost, and that alone drove that margin impact down. So I still feel very good about the margin improvement that we've forecasted for that segment for the year. I believe that we said EBIT margin improvements for the Network Power is going to be somewhere in the 13.6% to 14%. We are going to be at that high end or slightly above that by the time we finish this year. So we're trending the right they way. It's just that, that one quarter, that's why we tried to call it out, and it's not always easy to hear everything say, but we knew that's what's going to happen hear, not surprising.

Seasonally, it looks like Network Power always a little soft in the second quarter, is it something structural or seasonal that causes the second quarter to be a little down?

Our customer base, with the year-end numbers, is always strong because most of our customers are calendar year number guys. So they drive to have a very strong November-December. And then obviously, we always have Chinese new year. So you have two things. Our second quarter, we have Chinese new year, and we have the drop off because of our calendar year customers, which are quite predominant in our Network Power base.

And moving to climate tech. You mentioned China [ph] the fishing rigs [ph] in place in June. Are we starting to see a scroll on shipments and are we going to get the kind of ramp in scroll in '11 that was anticipated a couple of years ago when these rigs are first discussed?

It's happening now. The answer is yes, is happening. We have very strong recovery in scroll. Our scroll shipments are growing. We reported to the board today 20% this year.

I think at one point, we're talking about a couple of million scrolls in China as a result of these regulation changes, is that still what we're looking at?

We are ready to capacitize around 2 million scrolls, let's say compressors, okay? Scroll compressors in China. It will go north of that in the next two or three years.

And I guess final question, you want to flesh out just the Shell contact and how you won that? Who have you competed with?

No comment.

Your next question comes from Jeff Sprague of Vertical Research Partners.

2% growth in Europe. You used to say you couldn't grow anywhere with 2% growth. Can you grow in Europe with 2% growth?

Well, we're going to see our growth, Jeff, and we're already starting to see our order base pick up with the euro sitting at $1.30. The strong export customers we have are now starting to export. So European economies, the countries that have strong capabilities are going to have a very strong recovery in the second half of the year if the euro stays down at $1.30 and it could even drift below $1.30. And so we're seeing those customers that we serve ordering our products, and that's helping our orders right now. And we would expect one, we had terrible comparisons last year, so we're going to have some growth in the second half. But if you look at the pure domestic players at less than 2%, your comment is still right in the mark. And I'm very concerned about Europe, their debt position is not very good. U.K. with debt positions extremely high right now. I think Europe's going to struggle here for the next couple of years and you know my opinion with that means relative to the United States overtime too with our debt position.

And on MRO, I'm a little bit surprised to hear that power MRO was picked up given just what we've seen in some of those end markets. Where are you seeing that?

That's around the world. The power industry has long-term cycles. Even the maintenance repair stuff is long-term, Jeff. So it's a function of what happens over extended time period. They have long-term shut down plants. They'll go ahead and spend the money, and so the cycle right now is good. Now you could slow down and say 12 or 18 months. But right now, around the world, we're seeing people spending money on upgrades, you got the environmental issues and you also have trying to get more capacity out of the current power plants right now, so they're spending money.

I guess just finally, you made a strong point about long-term investment. Just a question that many investors have though, is what causes that long-term investment? Obviously, you need to do it. The jury's out on Avocent, but a lot of people thought that was expensive. And the deal we're not talking about looks fairly rich too. So I'm just wondering when you put in the context of maybe the "strategic deal" versus the more kind of normal -- if there's a different valuation framework or ROIC framework or how do you internally come to a conclusion on a deal like that?

First of all, I'll come back to that question. The first comment I've made with long-term investments, I'm talking about technology investments, internal investments and also people investments. So we're in a mode right now. We were going through a mode -- our peak employment was 141,000. We went below 120,000, and now we're back up to over 130,000. And so the issue for me is I want to make sure we're investing right now, even though our underlying sales are still negative. We're investing in where that growth is going to come for us for the next six, 12, 18 months. So that's people investment and then also innovation to new products. That's the comment I am making. Because it's really easy to say, "Okay, let's wait until we see the really strong recovery happen, and then make those investments." But right now, the key issue for me is balance that margin expansion, which we have going on right now with flat or negative underlying sales and that's what's key for me at this point in time. Relative to acquisitions, we have a very formal process relative to what I call bolt-on acquisitions, which we did won today. We proved one today, and that type of return, typically, is going to be around a 15%, 16%, 17%, 14% return on total capital to us. And that's a return on investment over time. Our strategic acquisition is going to be, as I look at it, in the realm of 9% to 11%. It's a business that we know extremely well, and it will over time, accrete value. Not only in the acquisition, but in the core business that we're trying to expand into. And so that is how we look at the long-term strategic investment profile. When we made the Fisher acquisition, which many people thought was very expensive, it greatly increased our presence in the Process business and greatly increased the value of our total Process business. The Avocent transaction and the Chloride transaction will greatly increase the value of our business in the Network Power overtime. And so that's how we look at them, and then we oversee by country, sometimes we look at countries and we look at the cost of capital for various regions of the world and their risk profiles. That's how we go at it, Jeff.

Does your financial model require you to get to the 9% to 11% on a stand-alone company without bringing in those larger company kind of ancillary benefits that would filter in overtime, but yes they are surely there, but hard to measure?

Yes, we do not. That's something we talk about on top. We don't do this, not in the model per se.

Your next question comes from Scott Davis of Morgan Stanley.

I think this might be the first presentation where you really call out new product innovations, introductions. And obviously, you guys have always been really well known for your kind of engineering side of it, and maybe underrated on the innovation side. But how do you measure that? I mean is there a way for you guys to think about a vitality index or is there some sort of -- maybe just a little bit of background you can give us? And how you've gotten to the point where you actually think that's an important driver now, the last up cycle other than the things like DeltaV, it wasn't as much of a conversation piece.

I don't think it's changed. I think that as we talked about it in the February session, we look at what I would call, core breakthrough type of technologies and innovations that will change the underlying growth profile and capabilities of the company. And we focused on those by business and then we make sure those are properly funded at the business level and the corporate level we fund them. It makes a big difference relative to where we take our acquisitions, where we take our internal investments and where we put our people. And I would say that's refined over the last 10 or 12 years significantly, where now look at, as I look at the innovation and technology breakthroughs we're looking at, we have a tracking mechanism when we look at the percentage of our money being spent, the people being spent and what I would call new innovation and breakthrough innovation. And we try to share that with people over time. But that's how we measure. We have a very disciplined process inside looking at what we call the game-changing innovation and how we're investing in that, the dollars and the people. And it's a process and we do it by business. So it's something that we really drove in the culture since the last upturn. And I think it's going to have a big impact on us as we come out of this. I take a look at slower growth, global growth environment.

Guys, I haven't really heard you comment on there's been a lot that's going on in the Tools business. I know your business is a little bit different than some of the other guys, but you've had the two big transactions, Black & Decker Stanley and then Danaher and Cooper is kind of a response to that. What does that mean for you guys? Is there more pressure to maybe find a partner here? Or it just doesn't matter?

No. I sold those business already. Those business are gone. The two business we have now, I mean, we have in there like our HVAC [ph] business and we have the high-end RIDGID, which are more technology companies. It's not really a tool company anymore.

Is there any scale issues? I suppose you're still selling to some of the same customers, I guess right?

Yes. We doing wholesale in Home Depot, but we sell them parts they don't sell. We made a decision to get out of that before they start following us. We got out of it. We got out those type of tools because it was a low margin, low growth, very competitive and China was changing the game here.

We all know that Europe's a bit of a mess right now. I think our average company is come in on growth maybe negative 3% to negative 5% in Europe. You guys came in at negative 18%. What do attribute to kind of some sort of a destock that maybe you guys saw that other guys didn't see or just a little bit more timing issues.

We're heavy in non-res. We're heavy in capital related. We're heavy in late cycle in Europe. And that's what it is and a lot of our customer base is more export. So that's what function as the process guys are very strongly. Our Process business, if you at our European entities, it's $2 billion. And so, it's a cycle of some of the companies we have there. That's what we look out there. So we stay up longer, and it takes a while for us to come back. That's not unusual. I've not been positive in Europe for quite some time now so nothing new for me.

Your next question comes from Tony Boase of FAF Advisors.

I just wanted to get a little bit more on the sequential operating profit bridge for Network Power. First, I know you mentioned to Bob that you had a good month from Avocent, but I guess I'm kind of looking for -- if I look at it sequentially, maybe just what could happen in the second half, that impacted you in the second quarter? Or that won't impact you in the second half, but impacted you in the second quarter?

I think what you're going to see I think the underlying business will continue to improve from a growth standpoint. So the growth will continue to improve a little bit. Most of the restructuring within the Network Power is done. The Avocent impact has gone up [indiscernible] different from quarter to quarter right now. So I mean I think it's pretty well done. The key issue for us was that if you look at Avocent, December was an extremely strong month in the way we booked it, and then you also have the issue rate comes in. We didn't have a whole quarter intangible amortization going on. So there was nothing unusual going on. There's nothing funny going on. I just think you're looking at it now more of a steady rate. You start seeing, I think, a continued improvement in our profitability in the Network Power business.

Now on Appliance and Tools. You've got some really easy compares on an organic, I mean, this quarter, it kind of seem like you should have done a little bit better organically than you did. Should that improve going forward? Was there something that happened this quarter that we didn't quite get all you could get.

I don't think so. I think that from that standpoint, you're not seeing a lot of returning yet until what we'd call in the big-box centers, the Home Depots, the Lowes, the buying profile still is not moving up dollar yet. A lot of our products are more up-dollar values. They're buying the low-end stuff, and so we're not seeing the consumer or the residential marketplace yet going into the mode where they're buying our type of product. We'll see that improvement as we go along. You're also not seeing what I would call the home repair type of market where, the equity down on houses, people are not spending the money in that. And those are type of a products that our businesses sell into. So the mix right now is not good. So I would look at a better second half, but it's not going to be of that strong a recovery. If you look at U.S. residential, it's still improving, but it's coming off a low, low base. It's going to be long recovery cycle for these guys.

And then on the Alternator business. Do you expect that to be flat for the year or slightly down for the year? And how does that compare to what your expectations were maybe a quarter ago?

I would expect it still to be down. My expectations now are higher than they were before because we see other investments going on around in emerging markets. And we're seeing some of the production coming back on line. And so some of the strong export markets are starting to pick back up. So I would say I'm more positive about it now.

Your next question comes from John Inch of Merrill Lynch.

So Asia, up 5%, and I think you had sequentially and significantly easier comps in Asia if you look at the underlying sales growth. I mean you had climate up 67%, which was an acceleration. So for the businesses that you would call out that got sequentially weaker, I guess you did talk about Network Power in China. Was there anything else?

The Network Power have been the biggest to announce because of the strength that we had in the first quarter. It was a very strong quarter. I don't think processing those guys -- from the standpoint of processes, we're still going to have a struggle this year, but I don't think -- it's just a quarter-to-quarter mix between Network Power and other guys. The other guys are just starting to recover, and nothing's surprising there.

There wasn't a region or anything like that, that was off was their?

From difference, John, I'm looking to businesses right now. I don't think so. I don't think there's anything weird going on between the regions. Sometimes, they have -- and the Process business can have very lumpy demand in Asia, I just cited that business, and I don't see anything unusual in the various markets.

CapEx expectations for the year were taken down fairly meaningfully. Is that a broad statement or was there a couple of bigger projects you weren't looking to do with say, a given segment or is there any kind of color you would provide around that?

I don't think I'm assuming that need. So I've said that I think our forecast is around $550 million for the year. It's a rounding thing, John. I would say, what I'm saying right now, rather than being around $500 million, I think we're going to be somewhere around $450 million to $500 million. That's what that says right there. You deal with billions here and around it. So right now if you look at what's going to happen, I think we're going to be somewhere around the $450 million to $500 million.

So there's nothing really material then?

No.

Where do you stand given inventory restocking? There seems to be this debate as to whether the stocking is well underway and about to end or depending on the industry, some people seem to think it hasn't really begun. Where do stand on that and really, what's embedded in your organic growth for the second half? Are you assuming a degree of restocking and if so, where?

My view of the U.S. right now is that the restocking is almost finished. I think it gotten geared up. I think there's some, obviously, certain segments that might be a little light, but I look at our industry, if I look at our own inventory, which is higher right now on $1 level. And I think we will keep it pretty close to that same dollar, plus or minus maybe $100 million. I think there might be a little bit more upside, but I think we've got the biggest benefit already in a restocking in the U.S. marketplace. That's my assumption. That's my feeling and view of the world. And everyone, you're right, everyone has a different view.

Just lastly, Dave, this isn't really a comment on Chloride, but if you think of the decline in the euro, the pickup prospectively of companies there and their Export business, I assume you have some cash in Europe today. Should we be looking for more European M&A activity? How are you thinking about that?

We definitely have money in Europe. We have a lot of cash in Europe. We buy companies in Europe, but I look at the various pieces and it's quite balanced. We do some in Europe last year, reduced a couple in Europe pricing. I think we do a couple in Europe every year, so I don't think we're going to be changing our position on that.

So this isn't presenting a bigger, significant incremental opportunity?

No, I don't think so.

Your next question comes from Eli Lustgarten of Longbow Securities.

When you look at volume getting better, you can understand improved profitability, but look at the margins both in Climate and Appliance have a big step up. Is there any upside to those margins that we saw in the second quarter as it go just a whole level of profitability?

I think from my standpoint, it's a function of -- if our European business start to kick in, in the second half, then I think my Climate margins -- we should be able to improve overall for the year. I'm going to start investing. The only key issue for me will be to starting investing. They had a very strong quarter now. Now, the question will be is can they maintain it? But I think that we had usually strong fourth quarters. So my gut tells me that we should be able to maintain, and I'd like to see a little bit improvement for the whole year. And this business will clearly be above what we've said early on the year. There's only a certain point our level of profitability can get out of these businesses. We have to start putting money back in, and we're talking with the board about that today about putting some money back to investment and back end that we had delayed both a capacity standpoint and some other SG&A investments, which will now come back in given the investments. So I would say the profitability is pretty close where it's going to be for the short term, but then it will continue to trend back up.

And then same thing on Tools?

On Tools, I think we should see improvements in profitability as the year goes on. Lynne just corrected me. She says she doesn't think it's going to get -- I think we'll be pretty close to that same range. I don't see it's going to drop off like they're saying here.

Material cost, the big buzz word that everybody's talking about this [indiscernible] do you have any issues with that? Everybody has it and you have to work with it.

My concern right now as I look at later this year going into next year, there's clearly inflation coming as I've talked about since February. And I see material inflation coming out, so we're going to have to keep driving pricing to offset that material inflation, steel, copper, the oil prices, which is ongoing into plastic parts. You're seeing a flow through in the system and that will start hitting us the way we have our contracts right now, later this calendar year and going into the first half of next year. So our focus right now is on there. We're pretty good for the rest of this year.

One final question I guess the new buzz word that's being floated around is called near shoring, I guess, with the movement of capacity back to this country with short supply chain, do we balance with those Asia [ph] going here. On the next one to two years, are you talking to any companies here about revamping their capacity here and many more components in the United States or in North America than you've seen or is that sort of still a wishful thinking?

I would say that is wishful thinking. For a global company that has our growth segment outside of the United States, I would say it's wishful thinking.

Your next question comes from Rich Kwas of Wells Fargo Securities.

Question on Industrial Automation, given that you're still about 25% to 30% below the peak on revenues and given your mix and what you've done restructuring the business, how do you feel about margins as you look out the next 24 months? Are we thinking 15% is achievable at a lower revenue run rate or how should we think about that?

In Industrial Automation, I think it's going to be -- 15% is pretty quick for the next 12, 24 months. I think it's going to take a little longer to get back to that level. It's going to come back up, but its not going to come back up that fast. You're not going to get 400 or 500 basis points in two years. It think it's going to be a very gradual recovery because you guys think about our Industrial Automation business is pretty strong in Western Europe and the United States. And so those businesses are going to have a weaker recovery, but clear the trend line is going back to the levels we reached before, and, obviously, restructuring in the next four or five years to be at higher levels, there I've said it. We're going to get to 17%. We need Industrial Automation to get back and beat levels they've gotten before.

And then on process, in terms of MRO on deferral of maybe expenditures that occurred last year and the recovery in that, where are we in that? Are we kind of exhausted getting through that or -- and that's going to be paid or what's your view on that?

My view is that we'll continue. I think the key issue right now is, yes, we feel comfortable about the recovery, they feel comfortable they have the cash flow. They feel comfortable they can get the money. And so I think this recovery and that type of spending will continue, and that's part of why I think we're going to have a better second half of the process than I originally thought. I think these are projects that are going to be more for 2011 and 2012. So I feel comfortable that MRO is going to continue to improve and help as we go forward the rest of this year.

And there are no further questions at this time. Please continue.

With that, I want to thank everybody for joining us today. Again, I want to say, it was a very strong quarter operationally. We feel good about where we're going for the second half of this year. I want to thank all the Emerson executives and operational people around the world in delivering outstanding second quarter and a still challenging global environment. Thank you very much. I appreciate it.

Ladies and gentlemen, this concludes the conference call for today. Thank you for your participation, and you may now disconnect your line.