Welcome to the Flowserve 2016 Fourth Quarter Earnings Call. My name is Paula, and I will be your operator for today's call. At this time, all participants are in a listen-only-mode. Later, we will conduct a question-and-answer session. I will now turn the call over to the Jay Roueche, Vice President of Investor Relations and Treasurer. You may begin.

Thank you, Operator, and good morning, everyone. We appreciate you participated in Flowserve's call today to discuss our fourth quarter and full year 2016 financial results. Joining me this morning are Mark Blinn, Flowserve's President and Chief Executive Officer; Tom Pajonas, Executive Vice President and Chief Operating Officer; and Karyn Ovelmen, Executive Vice President and Chief Financial Officer. Following our prepared comments, we will open the call up to your questions. And as a reminder, this event is being webcast and an audio replay will be available. Please be aware that our earnings materials do, and this call will, include non-GAAP measures. Please review the reconciliation of our adjusted metrics to our reported results prepared in accordance with generally accepted accounting principles, which can be found in both our press release and earnings presentation. Please also note that this call and our associated earnings materials contain forward-looking statements, which are based upon forecasts, expectations, and other information available to management as of February 17, 2017. These statements involve numerous risks and uncertainties, including many that are beyond the Company's control. And except to the extent required by applicable law, Flowserve undertakes no obligation and disclaims any duty to update any of these forward-looking statements. We encourage you to fully review our Safe Harbor disclosures contained in yesterday's earnings materials, including our Form 10-K filed yesterday with the Securities and Exchange Commission, which are all available on our Web site at flowserve.com in the Investor Relations section. I would now like to turn the call over to Mark Blinn, Flowserve's President and Chief Executive Officer for his prepared comments.

Thank you, Jay, and good morning, everyone. Our 2016 fourth quarter played-out largely as we expected, delivering adjusted EPS of $0.72 and representing about one third of our full year 2016 adjusted EPS of $2.19. Highlighting the quarter and the full year is the stability we delivered in our aftermarket franchise with constant currency bookings flat with prior year periods. For the full year, our aftermarket book-to-bill was 1.02 and we built aftermarket backlog during the second half of 2016 even as our customers remain cautious with their maintenance spending. We believe the Company has largely reached the foundational level in aftermarket activity despite a multi-year downturn in the business cycle that's been longer and deeper than most industry participants have ever experienced. Our higher margin aftermarket work at year-end represents over 30% of our backlog mix, well above the historical trend of roughly 25%. During the quarter, our focus remained on delivering value for customers and shareholders by driving our transformational realignment program. 2016 completed the second year of our three year program. So, we are deep into the heavy lifting of transforming our global operational footprint. This initiative was more than a response to the challenging market environment; but was intended to utilize the declining levels of activity to better position the Company geographically for our customer base; lower the total cost and increase the flexibility of manufacturing; help minimize the annual under-absorption we’ve experienced an over an decade; and enhance our profitability and competitiveness when the cycle turns. As we’ve communicated the last few quarters, these structural changes to our business have created some disruption in operations, including both the expected and unforeseen. Last quarter, we discussed some of IPDs realignment challenges, which we actively addressed through several leadership changes, including appointing Tom Pajonas to lead the…

Thanks, Mark, and good morning, everyone. Looking quickly at our 2016 fourth quarter adjusted earnings, we delivered adjusted EPS of $0.72 per share in line with the expectations discussed on our third quarter call. Our sequential increase we delivered this quarter included the typical pick-up we see in shipping levels from seasonality. Our reported EPS of $0.50 includes realignment expense of $0.20, $0.01 of Brazil inventory right down, $0.01 of SIHI purchase price accounting, integration and other expenses and $0.03 of negative currency translation. Turning to our bookings, on a constant currency basis, we declined 4.2% in the quarter. Aas most of you know, aftermarket activity is amongst the most profitable work we do. So we are pleased that the aftermarket bookings remain flat year-over-year and this higher margin work comprise 49% of total bookings. Original equipment bookings continued to reflect the current industry environment and declined 8.2% on a constant currency basis year-over-year. Regionally, strength in the Middle East and Europe was offset by ongoing challenges in the distressed Latin American market. Sales were $1.1 billion in the seasonally high fourth quarter, sequentially delivering a 13.9% increase. However, year-over-year fourth quarter sales declined 14.7% on a constant currency basis. Aftermarket sales were less impacted, down 8.7% on a constant currency basis versus an OE sales decline of nearly 20%. For the full year 2016, Flowserve’s constant currency revenues decreased 10%. Turning to gross margins, in the fourth quarter, adjusted gross margin decreased 20 basis points versus prior year to 33.2%. Loss of sales leveraged, increased under-absorption and pricing headwinds, were fully covered by our incremental realignment savings. On a reported basis, excluding the realignment charges of $22 million and $32.5 million in the 2016 and 2015 fourth quarters respectively and $1.4 million of Brazil inventory write-down in 2016, our…

Thanks, Karyn. Wrapping up, I believe our industry appears to be moving towards better days ahead. While 2017 is largely expected to be a reset year, I believe 2018 and beyond look more promising. We've seen some initial signs that give us confidence, such as last year's performance in aftermarket. In 2017, we are participating in an improving number of feed studies and customers are beginning to schedule more final investment decisions for projects, which would be a positive catalyst in future periods. The relative stability of oil around the $45 to $50 level for the past couple of quarters has been an encouraging development for our industry, and could potentially serve as the catalyst needed to start releasing pent-up maintenance activity. Flowserve and others in our industry have taken actions to be more efficient and pricing, while competitive, is rationale. Further, the ongoing macro factors and trends that help support the long-term growth proposition for Flowserve remain intact, such as the growing world population and emerging global middle class that requires more transportation fuels, clean water, electricity and chemical products. Aging infrastructure in developed regions combined with the need for new facilities in the emerging markets and the requirement to service existing assets to maintain production levels. Finally, there is a general market view that growth is on the horizon. However, it is important to note that Flowserve is a late-cycle beneficiary. In 2017, we expect nearly $300 million decline in revenues from beginning backlog versus prior year, a reset in annual variable compensation performance goals and expect increases in merit compensation, which together make for sizable headwind. While we have identified and expect to implement a number of additional cost initiatives beyond realignment, we still anticipate that our customers will remain cautious with their capital and operating budgets…

Thank you. We will now begin the question-and-answer session [Operator Instructions]. And our first question comes from Charley Brady from SunTrust Robinson Humphrey. Please go ahead.

Mark, let me just say congratulations on retirement, and good luck to you in the future. It's been nice working for you these past several years. So, I think you’ve done a lot of good things to the Company since you came on board .So, thanks for that.

Thank you.

I just want to touch on the aftermarket commentary, I mean, I guess that aftermarket was constantly flat, but if you look, it was really driven by IPD, EPD. I think it’s the second or first quarter where you’re still seeing aftermarket bookings down. FCD had a decline this quarter. So, I guess I'm just really trying to square up confidence as we go forward, the aftermarket really has stabilized because with the exception of IPD, the other two segments are still seeing a bit of struggle on aftermarket.

Well, I mean it kind of comes and goes amongst a segment if you go quarter-by-quarter. It is probably better to look at it in the aggregate. And the reason is we do manage aftermarket across, primarily our rotating equipment businesses at a consolidated strategic level. And the point is, don’t look at them necessarily as discrete within the segment, because we manage it from an end user standpoint. So, you’re going to see puts and takes within the segment. I wouldn’t read anything into that. Now, I can’t tell you if you look at the comparison IPD, especially over the coming quarters, we do expect you'll see some good movement, mainly because of the improved execution. Whether its aftermarket, run rate business, projects, if you’re not executing to customers’ expectations they're not going to give you orders.

And just as a follow-up, your commentary on the past due backlog out of the door, can you quantify how much of the backlog is considered past due. What the margin impact is from any potential penalties or LDs on that?

Well, it spiked up as you’d expect. During the realignment, there is hand-offs, there is some that was anticipated, there some that wasn’t. What I can do is point you to IPD. And if you look at their margins this last year, they were even in this part of the cycle probably 400 basis points to 500 basis points below where they should be. Why is that occurring, because you have bottlenecks in the plants, you’re not getting the top line leverage because customers aren’t giving orders the way they should. You’re spending more money on reworks, scrap, all the things around cost of poor quality, that kind of feeds into past due backlog. The other thing -- the reason I don’t want to just use past due backlog, I’ll explain in a second. But that’s one way of illustrating that unexpected execution challenges can have a impact and they do take while the work through. The reason I don’t want to spend a lot of time on past due backlog is, keep in mind the way we measure past due backlog is to the committed contractual date. As you’ve heard on prior calls, we’ve said a number of times, customers are won’t ready to receive it. We go ahead and put that into past due backlog. So, we hold ourselves to fairly high standard. I think the issues are we look at it holistically around operational issues, and IPD has had their challenges. The other businesses have as well, this happens when you’re doing this kind of heavy lifting. And that’s why I made the comment that while we haven't called a market turn, we do see a couple of inflection points in the business, and that is we’re getting through a lot of the lifting on our restructuring and the ones that are head or the longer lead time plan restructurings that we can plan better into and you can execute more carefully and slowly. The second thing is we’ve talked about this for a period of time. Managing your SG&A against declining revenues is difficult. And the fact is companies like us, you’re behind the curve, you cannot be on the curve, it's very difficult to manage to revenue decline. But we do start to see that abate over the next couple of quarters as well. So those are the things that we've talked about, and as you think about our business this year.

Our next question comes from Andrew Kaplowitz from Citi. Please go ahead.

So, maybe Mark or Karyn, can you give us a little more color into the puts and takes of the 2017 margin executions? If we were to strip out incentive compensation and adjust for the realignment savings that you gave us for ‘17, it looks like you’re tracking to 30% to 40% decrementals in the business, and that's with some positive mix expected. So, maybe you can quantify how much of that margin pressure embedded in your guidance is related to price, or is it just lower volume less on absorption?

Well, as we talked about in our quarter-one, you are getting into fixed cost leverage challenges because of the ending backlog and the way that backlog is going to roll-out during the year. So, that kind of starts you in the whole in terms of EPS and margin. As you look at over the year, I think what we've talked about before in terms of the incentive compensation. And let me just make a point here. Don’t view incentive compensation as a one-time item. This is completely in line with our commitment to shareholders. But if you remember when it was a benefit in 2015, Karyn had talked about through the first three quarters about a 100 basis points of margin benefit was an expected 50 to 100 additional for the year. So that kind of helps you understand that impact in terms of margins, which would be a headwind this year. Mix is a benefit as you talked about as our realignments savings. When they are achieved, a lot of these are going to be achieved during the course of the year. And then as I talked about catching up on the curve on SG&A. When you’re behind the curve, it puts pressure on margins when you get out of the curve, it can sustain the margins and then the mix as well. Finally, we talked about this the last quarter, improving IPD, which we’re looking to start getting some good traction on in the second quarter. Those are all the puts and takes. But right now, when you have fixed cost leverage issues that's going to put a lot of pressure on your margins over the short-term, and your earnings as well.

Mark, just following-up on that. Is it fair to say pricing and backlog is again relatively stable in aftermarket and down -- I don't want to put numbers in your mouth, but 10% or something like that on the OE side?

Well, we don’t want to over simplify. I look at our business in three forms; there project business; there is run rate business; and there is aftermarket business. Aftermarket has been relatively stable. That doesn’t mean that on some of these project upgrades customers don’t want some pricing concessions, but it's still profitable business. On the run rate, it's been relatively stable. We've seen some pressure. I will tell you a lot of the run rate business is some of our MRO business, and also some of the product that IPD puts out. And our best pricing opportunity in IPD is going to be execution to the customers’ expectations. If you look at the project business, it is and has been competitive. The project we talked about recently the Helgli project, which is the first one we've seen of that size in a number of years, I think three of four years. That was competitive, but we can still make a profit on it and absorb our factories, and then so as you think about that. The other thing is with lower backlog, even though we're doing a lot of restructuring, it will put pressure on absorption.

Just a quick follow-up here, you hired Scott last week, so it's a tough question to ask. But did he get to see the guidance that you put out today, Mark, given that he is going to be expected to deliver it over the last three quarters of the year?

Well, I want to point out. I mean this is the Company's guidance, not anyone's individual. Scott is definitely -- he's finishing up a role and executing that. But he's certainly been engaged in this transaction. But I want you to just take a step back and see. This is the folks around the table here in the Company, 18,000 people that are providing guidance.

Our next question comes from Scott Graham from BMO Capital Markets. Please go ahead.

Mark, you've been a great leader and a great representative of the Company, and I wish you luck. You've been, as forthcoming as they come, so thank you for that.

Thank you very much Scott.

The oil and gas up bookings last couple of quarters. Obviously, that's not coming from the base business. Sounds like you're getting into some businesses, which were maybe smaller as a percent of total but maybe just grabbing some opportunities. Can you talk about the interplay between some of the markets that might be small yet still enable you to have enough bookings numbers, for example, in oil and gas and the interplay between that and your network of QRCs?

Listen, probably best way to look at oil and gas is to go back to the compare and the prior year, and think about it from that perspective. Because that was a time of great uncertainty, remember oil, this time last year, went into the 20s and market see that. So, when the third and fourth quarters of '15 people were really holding on tight. By this period a year later, they're still very tight, they're still deferring things. But as we talked about, at least, we saw some emergency, repair work and activity occurring. That contributed also our broader footprint as we brought some of that online, we were able to participate in some more markets as well. So why we like the increase, especially considering the fact that that market has been challenged for a while, I think it had more to do with the lack of visibility in 2015 as a compare. Which is why -- and our comments right now we’re saying, the fact is we're three years into a cycle. This has been brutal, brutal cycle, particularly in the oil and gas industry. The fact is these things come back. So two things happen; one, as time passes, you get closer to the end of the downturn in the cycle that’s just the way the math works; the second thing is some of the things we've seen in some of the distributors, some of the other activities, and some of the fieldwork and everything, indicate that there is a little more comfort. As we anticipated now that oil is stabilized for, we're almost into the fourth quarter of stabilized oil. So, I think it's more of the compare in '15. There are some strategies that we've executed on that have allowed us to grow those bookings really in all those segments. But if you look at the segments that grew, it had more to do with '15 uncertainty than anything else. Keeping in mind in '15 and we talked about this, we had a couple of big projects like in our valve business and pulp and paper, some things that you don't see certainly on a recurring basis.

My follow-up question is simply, you and Tom, Tom with his long-term relationship to the valves business, have historically had a pretty good bead on the chemical market globally. What do you think is going to get -- the feed-stocks, they are not going to get lower. What do you think are going to be some of the -- a catalyst? Is it global GDP? Is it U.S. or Europe GDP? What's the catalyst to get some of those crackers going again? I know that the projects have been drawn up, ready to go in a lot of cases, but just put on hold. What's the catalyst in chemical?

And Tom will follow-up on this. But global GDP is typically a really good proxy for evaluating those markets. Obviously, you will have pockets based on opportunity. I think just generally looking at the chemical market, the uncertainty that occurred in the last half of ’15 and the first half of the last year was indiscriminate across industries. And so you would hear all companies just not knowing where things were going. There was so much volatile in markets. So, I think when we talk about the oil and gas industry, seeing some stabilization at least in the feedstock or the underlying crude and of the abating on certainty but not the ambitious spend yet, that apply to all industries. Tom, do you have anything else?

I would just add that there is a discussion going on within the chemical companies in terms of a next wave of build coming in terms of ethylene or propylene projects. Obviously, they’re weighing that against the capacity that has built up over the last couple of years. I would add one other comment also on the chemical, but the same things applies to the oil and gas that Scott brought up, is we’re seeing a requirement from localization of product in oil and gas area and the chemical area, which bodes very well for our network that we have established around the world for low cost sourcing, as well as localization of the product. So that is a push that’s coming in the oil and gas, and that is increasing in the chemical area.

Our next question comes from Robert Barry from Susquehanna. Please go ahead.

Mark, I will echo the earlier sentiments. Good luck. Nice working with you. I did want to just start with clarifying something you said earlier on the incentive comp and merit increases. Should we be assuming in the guide it's about a 50 to 100 basis point headwind on margin? Is that kind of the ballpark?

Let me just give -- I’ll put out what is out there is and if you think about headwinds that were specifically mentioned about $0.10 on the currency, $0.10 on the merit across the Company. And what we talked about when we’re receiving a benefit in 2015 is about 100 basis points to the first three quarters and 50 to 100 additional through the year. So, that was what we put out there. And the reason, we’re not trying to -- not go to specific. I think what’s important about variable comp is that it align with shareholders. The other things that we mentioned, and we’ll give you specifics around, we can put in any terms because they are fairly specific in identifiable. If we don’t exceed our objectives fully delivering to shareholders, it impacts our incentive comp. And it is broad base across the entire Company. I mean over 60% of our folks get incentive comp. So, I think that’s the reason we’re being fairly specific, but that will serve as a guide based on what Karyn has indicated. Karyn anything else?

Just as Mark was pointing that 150 to 200 basis points, that's really just to give some context on what it's been as it relates to 2014. If you look at 2015 and ’16 they’re fairly comparable, ’16 was slightly higher about 17 basis points below margins, but although both through ’16 and ’15, substantially less than what we experienced in ‘14. And as we go through and we look at ’17, as Mark indicated, compensation starts share, alignment to shareholders at lower earnings, lower variable components and price per share at the higher end. But the actual dollar amount not determined until the end of the year. It's based on numerous factors, so it's not just earnings; it's bookings, working capital, platforms may have different results and accompanies. So there is a range of profitability that’s not linear.

And simple way to look at it is if you look over the last couple of years, our initial guidance has been impacted by markets and everything and that has impacted our incentive comp.

I did also want to follow up on a comment you made earlier that we’re into the very heavy lifting period of executing the restructuring now. Across what percent of the footprint during this time of heavy lifting would you say lead times and on-time delivery are at market-competitive levels?

And, if I think about, for example, in IPD a disproportionate amount of their facilities were impacted by the realignment, and in some of the unanticipated inefficiencies. Some of our bigger very profitable plants were impacted. Within the custom engineers segment that has been very organized and thoughtful, that's been a multi-year plan. There has been some impact and less so in the valve business. The primary impact from the, what I'd say, the anticipated inefficiencies have been in the industrial business. And as to my comments earlier, you could see the margin impact versus what it should be at this point in the cycle.

And Robert, just to add to that, I mean we're also beginning to bring the lead times back-in in the IPD business as we execute our recovery plans for those earlier realignments.

The spirit of the question, I guess, was just the extent to which the orders are temporarily suffering, because you're just unable to bid for some things that may actually be out there?

Quite a bit in the last three quarters of last year, and it's still the case. Right now customers don’t forget overnight. But as you start to improve, they like the product, they like the way you deliver the product. You don’t assume anything, but you can earn them back. And Tom is doing a good job of that now, but we're not going to sound the all clear on it yet.

So, it sounds like we’re at the trough though, like the lead times are maybe at kind of…

Yes, they are improving. They are definitely improving, but not at the levels where they need to be.

Our next question comes from Joe Ritchie from Goldman Sachs. Please go ahead.

My first question, I just want to touch on the comments on the substantially lower 1Q, because those comments can leave a lot to the imagination. And you guys called out lower backlog and higher SG&A. Is there a way you can give us a little bit more detail, some quantification on the higher SG&A because some of that I would imagine is one-time as well due to the CEO transition? So any color you can give us there that would be helpful.

Well, the best thing I can do is to look at trends the way things have been trending and why they've been trending that way. And what you see in the first quarter is some costs as you just mentioned associated with the transition. We also if you remember last year in the first quarter have the 55 intend to retirement program, which because the way the grants occur are in the first quarter of every year. And until we get into a full year three year cycle, it's going to be an impact, particularly in the first quarter and then it smoothes out, because you're cycling through all the grants at that point in time. So, those are the two primary impacts that you see in the first quarter of this year, couple of other items. But part of it also in the G&A is as we mentioned in the call, there are some actions that we started taking at the end of the year, which we couldn't do necessarily before the holiday. So, we're implementing a lot of those this year that also has an impact. So, that's on the SG&A line as you walk up the P&L and you look at where backlog is and our commentary around some of this is longer lead time and will be in future quarters, particularly in the aftermarket project. There is a point in time where you get tied to your fixed cost and every dollar of revenue has a disproportionate impact. And that's what you're seeing in Q1 this year is that impact on G&A, which will certainly not only will that trend abate because of the expenses that I just mentioned to you in the first quarter, but also some of the cost leverage that we're going to get. That's why I referenced the curve on G&A. We've been behind it even in the trend it will be a little setback in Q1 because of the things I just talked about. But we'll catch up with the curve. Companies can't get ahead of the curve, but we'll catch up with the curve during the next few quarters. Does that help?

The color is definitely helpful, Mark. I know historically I’m implying 1Q would imply that, based on your guidance, that you'd be closer to $0.30. And because of the wording and -- I'm struggling with the quantification here. I guess the follow-up I have is are we talking that 1Q could potentially be negative, or is that being a little too draconian based on the cost structure and the backlog that you see today?

That's trying to give me Q1, maybe give you Q1 guidance, which I won't give you. But I think the way and Karyn made these comments is you -- again think about fixed cost leverage. You do get to a point where it has a disproportionate impact at downside. But by the way, as you start to lower that fixed cost leverage, you get leverage on the way up. And what we're seeing in Q1 if you looked it historically, it was much more variable to that fixed cost as we were moving down in Q1 because of where revenues were and look at year-end backlog. We're much tighter to that fixed cost point for the reasons we've talked about in Q1. But we'll lever up during the course of the year. So, that's probably the best context I can give you, because we don't provide specific guidance. But we want to just to be clear with you what's going on with the business, especially around fixed cost leverage.

And maybe if I could ask one more follow-on you mentioned that the first six weeks you were starting to see some improvement from your Gulf Coast distributors. That's a really good sign for the first quarter. Is your expectation then as we progress throughout 1Q, it would seem the backlogs should be up or orders should be up at least sequentially. Is it possible that you guys could actually see some growth year-over-year as well, or is it too early to tell?

Well, I think as we look at it, we don’t have any frolic assumptions in terms of the order book this year. We remain cautious and that’s what you heard in our comments. We do see some encouraging signs. But I just want to remind you, we saw this and the industry saw this in the summer of last year, and then we were surprised by what happened in September and during the remainder of the year. So, while we see some encouraging signs, I think we’re going to just remain cautious because we don’t want to go through that discussion again.

Our next question comes from Nathan Jones from Stifel. Please go ahead.

Mark, best wishes for the future. It's been my pleasure working with you for the last seven or eight years. Can we talk a little bit more about the aftermarket short-cycle activity? It sounds like that’s trending a little bit better. We have been hearing talk about a material pickup in turnaround activity coming given crack spreads are down a bit. Curious what you are seeing there. A lot of the big refiners have talked about taking downtime on their 4Q calls. Some of those distributors down there have talked about adding significant amounts of inventory. It looks like maybe the turnaround season gets started a bit earlier, just your thoughts there.

In the Golf Corse, as we’ve mentioned, we’ve seen some of the inventories come up in our distributors. And I will tell you, I mean that is a good early sign because they tend to get out of the blocks first, because they have to have it in inventory and ready to deliver when the customer wants it. We’ve seen as with some of the other things in terms of the spend and that’s why we talked about the expectations around normal maintenance levels. What we haven't called for is anything really accelerated in terms of pent-up demand, if that were to occur that is certainly going to be a benefit. I think it goes back to where we were Nathan. A lot good has happened since the election, I think we would all agree in the markets. I think we want just see some of that on paper before we start getting more bullish on things. And I think everybody else is. Stock market seems to be ahead of reality at this point, but reality may catch up.

If we were thinking about a normal level of activity for your aftermarket business, wouldn't that imply some fairly significant growth from where you are right now?

If you get back to normal activities, absolutely, because what you’ve seen in the order book in the last couple of years is strict cash management from all the way up to the value chain from the large integrated to the smaller players. Just think about it at this time last year, Nathan, folks were wondering if they could issue equity to short their balance sheet, the question was were banks going to start having to adjust loan covenants. I mean it was a completely different environment. And when industry gets into that situation, it’s frightening for them. And so, you are seeing some of that abate. And as we talked about stable oil price help and a little more visibility perhaps even visibility in the regulation. We’ll see what happens with the U.S. pipelines. They have certainly become much more viable in the last month in terms of discussions than they were before. So I think all these things play well. We just look forward to seeing it in action. But the good early sign as you mentioned originally is some of the distributors in the Gulf-Coast.

And then my follow-up is actually for Tom. If we could just get a little bit more detail on the actions taken so far in IPD, you talked about getting good traction there beginning in the second quarter. But margins currently were probably 400 basis points or 500 basis points below where you thought they should be at this point in the cycle. Can you give us some idea of how you would expect those to progress through the year and maybe what exit rate we'd be looking at, at the end of ‘17?

Yes, so maybe just in general in terms of some of the things we’re doing on IPD. First of all, all the issues, they are not systemic on unsolvable issues. These are all things that we can deal with. I mean if you look at, I would characterize the situation we get into, is a little bit of choking of the businesses. We do have some system changes where we were going from a one SAP to an Oracle change and the billing materials wasn’t done, so these are all solvable issues in the business. What we're doing is we're mapping out in a very specific detailed form all the things that need to be done on these early realignments. And I would stress that these are on the early realignments that we've done. So our governance now has been, I would say, significantly upgraded with a lot of specifics overall in the business. So I would expect, obviously, the pass-through backlog coming down overtime, and we've already made progress already in last several weeks over the pass-through backlog.

And Nathan, you've asked the question on kind of margins. We talked about before getting this business back to where it was before, the 14% to 15%. I've talked about the 400 to 500 basis points just based on qualitative work looking at what it should have been, and looking the impact. When your two biggest plants get chocked, as you use the term, it's very, very expensive in the business. I think the other thing, I do want to remind everybody we’re not calling out SIHI PPA or anything like that because it's integrated into the business, thank goodness. That is a really good company with a good product. We're a little slower integrating it. And the reason was we found we integrated more into them than originally anticipated. But it's high margin product. It has high-demand from customers. Admirably, one of the plants they got chocked was one of their plants, one of their high-production, high-volume facilities. So, as we look holistically, we are -- life without SIHI wouldn’t be good right now. We are so thankful we have that company.

Is there any quantification you could give us, some margin progression or exit rate by the end of the year kind of thing with these improvements that you are making?

We have plans for that. What I would tell you is when we get the traction, we talked about in Q2 and I certainly don’t want to lay this out there for future conference calls. But I think that's, if appropriate, that's the time to talk more about what rates will look like. Because I think we're -- you can hear on this call. We’re very thoughtful in making sure that we put out commitments we're going to deliver to you because we don’t take it lightly when we miss them.

Our next question comes from Andrew Obin from Bank of America. Please go ahead.

Mark, congratulations and thank you for your leadership over the years. So, I have a question because I am a tad confused this morning. I went to Emerson's Analyst Day yesterday. They were talking about their project funnel being up 50%. They also stated very explicitly that they now have visibility on MRO for the next two quarters and that backlog just basically inflected earlier than I thought. Earlier today, I listened to a conference call for one of your largest distributors and they are guiding to revenues up 10% to 20%, highlighting how they have great visibility, how turnaround season is much stronger this year. And I'm just a little bit confused because Q1, it seems there's an air pocket and you guys are being very conservative. So are you guys being conservative or are you losing marketshare, because that would be another explanation that, as you said, you are out of capacity, you lost marketshare and you are just not getting the orders? It's a direct question, but I'm just confused.

That's fair. And I'll tell you to -- and by the way, Emerson is a fine company and fine competitor. So take this for what it is. I mean you look at our valve business and how it's performed, it's not losing market share. And we've actually seen opportunities where we are. A lot of Q1's pocket is what is in backlog, I think that's the point we need to make. We do have bookings shift, but some of that MRO didn’t book and ship necessarily within a week, some of it does. The distributor you're talking about is the one I think we've referenced in our comments where we're seeing some activity in the Gulf Coast region. So, not completely different we've talked about the fieldwork. But just keep in mind we are longer lead time items than some of the compares you just enumerated there. And so, the fact is as some of our products are going to take a little longer in these projects to get in. So we do have some visibility around the feed work. And I think the other thing is we just, our approach is when we made commentary looking forward. We want to see things turn. We're not good at calling the day things are going to turn, but the day that we see it we'll be happy to let you know about it.

So, just to make sure, if the cycle turns, you are ready to take advantage of it?

Absolutely, if we done nothing else over the last three years, we have improved our capacity in terms of localization, where it needs to be, we definitely made it efficient. We are working on our fixed cost leverage. For this business, it doesn't take too much top-line. We’ve talked a lot about fixed cost leverage on the way down. I think we need to think about it on fixed cost leverage when the markets come up, even if it's a gradual incline, we'll get a lot of leverage. If you look at the G&A that has been adjusted at this business, despite merits over the last number of years, despite taking on four or five companies with all of their people organizationally and how we've been able to manage G&A that should give you an indication that while it may look flat over the last couple of years, it's actually a lot more efficient than it was before. And we have a broader footprint a broader product portfolio, and when we the turn we'll let you know.

I have just a follow up question. Can you just comment on how short cycle or seals that trending so far in Q1?

Generally and it goes to the comment earlier about distribution and everything. We've seen some improvement there. But we don't discuss that necessarily as a separate segment. But the seal business has seen some activity. And there is a reason for that. The meantime between failures of all rotating equipment, the seals tend to be the shortest. So, you will need to act on those regularly but if you have not discretionary, but incremental OpEx, it will tend to go to your seal turnarounds in your business, because if a seal fails your system is down.

So, if OpEx goes up, we should say so. So, if I believe OpEx is going up, seals should pick up?

Yes, absolutely, seals should pick up. And seals have been, they have been a good stable business as you can see with competitors.

Our next question comes from Jim Giannakouros from Oppenheimer. Please go ahead.

Mark, echoing others' best wishes as well. Aftermarket resilience, the bookings comparison sequentially, I understand; I understand, obviously, higher margin versus OE, that I get; but just to better understand margin and mix implications, how and if you could put some numbers around. How do margins encourage aftermarket bookings compared to last year? And was there a trend that you can call out that occurred through 2016, any shifts there?

Aftermarket margins, particularly in the gross margin line, have historically ranged from 43% to 49% through cycles. And that’s remained fairly consistent. So they can move a couple of 100 basis points, up and down, this is on run-rate aftermarket. Some of these upgrade projects you can see a little more dramatic of a move. But the point is aftermarket business is relatively stable. And if you think about why, I mean it is around the critical nature of the operating facility. And being able to respond and serve them quickly, which is why QRCs are important. Where you see the more dramatic price moves are going to be in the large projects, just because of the dollar amount of the project and the competitive nature. Pricing in the run rate business does get impacted by markets, but again those are a lot about being able to deliver quality on-time. So, if you can execute well, you can command more price on the margin. But aftermarket has been relatively stable. I mean the reason we emphasize it is companies operators have been doing everything they can over the last couple of years to hold on the cash, everything they can. And you’ve seen when companies do that. And so they will push everything they can in terms of repairs as long as possible. They will never put their people at risk in terms of safety. So, I'm not suggesting they'll go beyond that. But if they can defer a scheduled maintenance, they will. Other things, factors come in crack spreads over the short-term. But over the long-term, the fact is as long as this equipment continues to rotate and flow goes through it, they're going to need repair, they're going to need upgrade, it's just a function of time.

And one follow-on if I may, just understanding that you are not just consolidating your facilities, you are likely upgrading just flow, et cetera. But smart technologies, other things that you could call out incorporated into these new facilities? To what extent are new processes, technologies driving efficiency gains let's say in ’18 and beyond? And I guess near-term to what extent does it represent the temporary disruptions to the processes that your leaner workforce now needs to get up to speed on leveraging or just working with new tools introduced in plant? Thanks.

It’s a really good question, because if you think in terms of technology within our manufacturing capability, for those of you who joined in a rally a couple of years ago you saw some sophisticated computerized machinery. And why is that important? Well, one because if you think about the precision around the process conditions and the engineering drawings and the castings, much higher level of precision, less graph, more efficiency, better tolerances. I think the other thing is if you look at the labor associated with that, the labor force is changing. We still have some fewer than we did before but we have some old vertical and horizontal lays in our plant and that is an art, and the individual who has been doing it for the 30 or 40 years and the chance for error is higher. So, yes in our facilities that we've been standing up, we have much more efficient computerized machinery that's doing a lot of the manufacturing for us. If you are talking about technology within our product, absolutely, and we always have maintained the product matters because that's where the process conditions are determined, that's we're the algorithms are created from, that's where you can put the sensors in. I mean it is really the intelligence of the operation that passes along to DCS system. So on both ends, technology has been very important and it will help us both in manufacturing and in selling our products. The last expansion is just using technology in terms of computers to sell to customers. Increasingly now, especially on the run rate business, customers want to be able to go online, configure the product, order it and our commercial organization and sales organization have been working very hard, it's a big beneficiary when we get in that place it's going to be IPD.

Our next question comes from John Walsh from Vertical Research. Please go ahead.

I’ll echo everyone else's sentiment and say best of luck going forward, Mark. So, a lot of ground covered, but just wondered, given what's going on with the realignment in IPD, are margins up in Q1 relative to the 4.7% from last year? Should we expect that they are up?

To my comment earlier, I don’t want to give any quarterly guidance. And we talked earlier in terms of what exit margins could be. I'll go back to, in the IPD business, we still think that we can -- and that is the business it should be at 14% to 15% levels. How and when we get there? I mean, obviously, if the market were to ramp up quickly over the next quarter, that's going to help you. But in terms of, operationally, we have certainly turned the corner but not completely in terms of improving that business and in bring it back to levels it should, keeping in mind that our most, two of our most profitable largest revenue plans were impacted, as Tom described. So I think around expectations it's getting those processes in place -- let's all the market aside at this point in time continuing to improve that winning back our customers, which will help top line add to the market, driving more efficiency. When a plant gets chocked, it can become -- it impacts margins dramatically. So, I think I just want to give you some context. But I will take a step back moment, the person who is doing this has done this before, and with great success and that's Tom Pajonas.

And then a larger-picture question, one of your competitors actually talked about seeing a little bit more increased China competition on the aftermarket business. Not sure if you’re seeing that, if they’re being more aggressive. Any color there that you can provide would be helpful.

Not really. If you look at the some of the equipment that we operate, it's fairly sophisticated. I don't know what competitor you're referring to. But no we haven't seen it.

Ladies and gentlemen, we have reached our allotted time. This concludes today's conference. Thank you for participating. And you may now disconnect.