GE Aerospace (GE) Q2 2012 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the General Electric’s Second Quarter 2012 Earnings Conference Call. At this time, all participants are in a listen-only mode. My name is Shanelle and I will be your conference coordinator today. (Operator Instructions) As a reminder, this conference is being recorded. I’d now like to turn the program over to your host for today’s conference, Trevor Schauenberg, Vice President of Investor Communications. Please proceed.

Thank you, Shanelle. Good morning, and welcome, everyone. We are pleased to host today’s second quarter 2012 earnings webcast. Regarding the materials for this webcast, we issued the press release earlier this morning, and the presentation slides are available via the webcast. Slides are also available for download and printing on our website at www.ge.com/investor. As always, elements of this presentation are forward-looking and are based on our best view of the world and our businesses as we see them today. Those elements can change as the world changes. Please interpret them in that light. For today’s webcast, we have our Chairman and CEO, Jeff Immelt; and our Vice Chairman and CFO, Keith Sherin. Now, I'd like to turn it over to our Chairman and CEO, Jeff Immelt.

Thanks Trevor and good morning everyone. The GE team had another good quarter and let me start by giving you few of the main points. First, we are confident in our earnings outlook for 2012, we remain on track for double-digit, industrial and financial earnings growth for the year. And we restarted the GE Capital dividend returning $3 billion for the parent in the second quarter. The environment continues to be challenging, the U.S. is stable, the appliance market grew by 1%, but housing starts up more than 30% that bodes well for future. Railroad links were up 1.2% and our retail volume and our private label credit card business is up 9%. We saw solid growth in the emerging markets with revenue up 17% and Europe remains very tough but within our expectations. Our revenue was strong with organic growth of 10%, orders up 1% and up 3% ex-win. And through the first half orders are up 8%. Orders pricing was up 1.2% and foreign exchange impacted revenue by $900 million for the quarter. Earnings grew by 12% better than planned. Capital, energy, oil & gas, transportation, appliances were strong, disc ops continues to be a headwind. And we have a very strong cash from liquidity position. We bought back $900 million of stock in the second quarter and plan to do an additional 3.5 to $4.5 billion by year-end. Margins are improving and we are on track for margin growth starting in the third quarter for 2012 and 2013. Overall, the team continues to make progress. Orders are up 8% year-to-date and consistent with our plans for the year. For the quarter, orders were about flat, it's important to explain the impact of two unusual items, foreign exchange and strong win orders of 2011. This kind of the…

Jeff thanks. I’m going to start with the second quarter summary. As you can see we had continuing operations revenues of $36.5 billion, that’s reported up 2% but we were impacted by the stronger dollar [after-tax] revenue were up 5%. Industrial sales of 25.1 billion were up 9%, decapital revenues of 11.5 billion were down 8% consistent with our plant shrinkage. Operating earnings of 4 billion were up 7%, operating earnings per share of $0.38 were up 12%. Continuing earnings per share includes the impact of the non-operating pension and net earnings per share includes the impact of discontinued operations reflecting the $0.05 of charges this quarter, which I will cover on the next page. As Jeff covered, year-to-date cash of 6.8 million was up 55% including the 3 billion of cash from GE Capital. For taxes the GE rate of 20% consistent with a low 20s rate, we forecast at the end of the first quarter, and the year-to-date rate for GE is 22%. The 5% GE Capital rate thus lower than the approximately 10% rate we previously forecast, the lower rate largely due to the business property disposition tax benefit that I’m going to cover on the next page. With the impact on the year from the business property disposition, the tax benefits we get with that, that’s going to allow us to shrink real estate a lot more quickly. We now expect a mid single-digit GE Capital rate for the year. On the right side, you can see the segment results, industrial revenues were up 9%, industrial segment profit was up 7%, that’s driven by the double-digits growth in energy, oil & gas, transportation, and GE Capital earnings were up 31%. So, I’m going to cover each of the segments in more detail on the page or…

Thanks Keith. And now to the operating framework, we want to confirm our operating framework for the year. We expect industrial earnings to grow double-digits. Energy is going to have a very strong second half, and margins will be positive in the third quarter and for the year. Capital earnings will grow double-digits, commercial real estate has improved dramatically and Europe is manageable. Our corporate is on track and we will offset any gains with restructuring. Cash expectations are being revised upward because of the capital dividend and pension change. We now expect 17 to $19 billion of CFOA for the year. Organic industrial revenue growth should continue to expand 5 to 10% and we will continue to shrink GE Capital. So, we have a very solid outlook for 2012 and good momentum as we (inaudible) for 2013. Finally, I think there is a lot of positive news reports for investors, we have a solid industrial outlook, we have a big backlog and margin performance, is on track, for the expansion we communicated at EPG, we are getting cash from GE Capital and we will continue to position to be a smaller more valuable franchise. We have a lot of cash, we plan to use the $4.5 billion capital special dividend to buyback additional stock, and those efforts will accelerate in the third quarter. Meanwhile, we will continue to grow the GE dividend line with earnings. So, in a volatile environment, GE is positioned for double-digit earnings growth and valuable capital allocation. And this is a powerful combination for investors. So, Trevor let me turn it back over to you and let’s take some questions.

Great Jeff. Shanelle, we are ready to go the questions now.

(Operator Instructions) Our first question comes from Steve Tusa with JPMorgan.

So, just on the aviation front, you are up down pretty dramatically but the margin were still okay, and in spite you said it's going to improve a little bit in the back half, how we think about aviation margin as we kind of turn the corner in the back half and then third quarter.

Well, I think if you look at the quarter, we were 19% margins down from 20 last year. Really the good news in aviation, the good news bad news, our margins as we are getting tremendous equipment growth and then we have a negative on equipment service mix. I’d expect that you are going to continue to see that, we have a tremendous backlog on a commercial equipment but you have seen a couple other points on aviation. The R&D as a percent of revenue was leveled off. They are controlling their cost and the improvements that they have made on everything they are doing with launch of the GEnx continue to help us as we look at the pressure that the GEnx engine delivers. So, for me, I think if you look the orders for aviation were down, spare orders were down in the quarter. We went down from in quarter, last year first quarter was 23 a day, second quarter was 20.6, last year it was 27 in the third quarter. We do not anticipate that we are going to get back to that level, but I do anticipate that and the business is forecasting that we will be up in the mid single-digit over the second quarter levels that we saw. So, I think aviation is one that we are confident about the outlook for the year, being positive in terms of our profit. In the third quarter there is one item, last year we had a gain if you remember it's about $70 million I won’t repeat. In the third quarter I’m not anticipating a really big margin number for these guys but we do anticipate an improvement (inaudible) second quarter. And we do anticipate that they will positive on our profit for the year.

And then, just one last question on the energy business. Thermal pricing up 5%, orders were down obviously a pretty tough comp. How booked are you guys from the thermal perspective. How booked are you guys for next year, my guess is your visibility is obviously getting better as you get closer there. Do we expect more orders here in the second half of the year given that, I think your book-to-bill is still below one in thermal but the pricing is obviously picking up, very nicely shown in the markets timing which is a positive. But I guess, can you give us a sense as to how (inaudible) assume a flat growth here in turbine.

I don’t have the exact turbine number but I’d say right now our business is about flat with what we normally would see in terms of booked orders and we are about normal like commitments that our things as a team is working as you look to a flat year in gas turbines for next year.

Our next question comes from Scott Davis with Barclays.

Can you give us a little bit of color on how the timing and why John Krenicki is leaving (inaudible).

John and I have been working on this for 6 or 9 months. With all of the acquisitions and everything we had $50 billion company within a company. And I think from our standpoint really is an operating company. I think the idea to get a little bit faster and more focused on those three businesses seem to be a logical position. And I think John saw the same way. We discussed him taking other roles inside the company, and I think his sense it's a good time to think about other things that you can do. John and I work for 25 years, I think this is just one of those natural evolutions in GE that we do as time goes on to better match up with the markets.

One of the questions we get quite a lot is kind of where you guys want to be in mining for long-term. And (inaudible) to talk about what’s your strategy in mining is and (inaudible).

What I’d say is you got positioning around, we already have a big business in propulsion, we already got a pretty big business in power conversion and kind of around the mine. It’s our footprint from a standpoint of product, service, global footprint, energy, water. So, we have a nice package of products for it. I kind of look at it at the same way I looked at oil & gas 10 years ago. I don’t see doing big acquisition. I think we can grow sequentially. So, I’d look at it as a good additional segment where we are about $2 billion in revenue a year. We can grow probably 10% in an orderly way. Relatively high margins and do it overtime. It's a nice way to leverage our footprint. But I don’t think you are going to see anything big or sudden from us as it pertains to mining.

The next question comes from Terry Darling with Goldman Sachs.

I wonder if you talk little more about your margin confidence both for the second half and for ‘13, I guess in the second half aviation is pretty locked in loaded. But maybe come back to the execution challenge on the ramp up in wind volumes and how you feel like supply chain as looking in that context to start. And then Jeff on 2013, talking about 100 basis points of expansion there, maybe you can talk a little bit about what you see is the drivers there and how contingent that is on the global macro growth rates you implied.

I think if you go back to EPG we said 30 to 50 basis point this year and 100 basis point in total over ‘12 and ‘13, right. And I think that’s kind of the still the way we look at it. SO, if you take a look we go positive in Q3. Energy drives the big chunk of that I think we are kind of hitting our sweet spot a little bit in the energy and we see that to be very strong. We also see good expansion in our transportation business. We have some easy comps in home and business solutions that will make margins enhancement there actually relatively easy. Keith talked about the aviation margin outlook. In healthcare we have some execution issues that shouldn’t repeat going in the third quarter. So, I see healthcare going positive in Q3 as well. So, we will have basically four or five segments positive in Q3 with energy actually very strong in that context. And if you think about the big levers we have got, we have got value gap, I think value gap is positive and we remain positive going in the ’13. You have got service margins, service margins continue to be positive both this year and next. We got simplification, you have seen what our goals are. And then we have got product cost, and I have got a ton of projects going around the company, we get our product cost down. So, I think on the macro side, kind of we prepared ourselves for pretty tough year this year, and certainly a volatile year. We haven’t been disappointed. We have seen that volatility play through particularly in Europe. And we are going to be equally prepared when you think about ’13. So, I’d see margin expansion this year between 30 and 50 basis points. And then next year I think that will make up for the total of 100. So, between let’s say 50 to 70 basis points next year. And then you are going to have between let’s say 13 and 11. You are going to have at least 100 basis points of expansion over that time period. And I actually see that turning the corner and I think third quarter is going to be pretty good.

The close in the second quarter and if you look at the margin, performance and energy and the margin performance across the portfolio, down 20 basis points versus the first quarter down more than that down 50. I feel really good about the progress we are making and return to value gap positive as Jeff said, R&D as a percent of revenue is going into a positive, total cost productivity is positive and the only issue we are wrestling with is service equivalent mix here in the second quarter, that’s a good news.

So, I mean confidence in the margins despite the softer macro out there, company determined factors and the mix here I guess, and obviously that’s quite positive. In terms of the macro impact on your thinking on orders over the balance of the year. Is that softened up a little bit presumably or is there more company determined self directed share gains and so forth there. I think at one point you have been thinking double-digits, where 8% through the first half. How are you thinking about that.

I think our orders, we basically have said that our organic revenue target is up 5 to 10%. Our orders growth basically supports that. I’d expect our orders to continue to grow for the year, I think FX adjusted in high single-digits in that range as the year goes on. We build an incredible backlog over the last period of times. So, we have got a big equipment and service backlog and so, we have drawn kind of positive book-to-bill ratios for long time. So, I think some of that has to be factored in as well, in terms of when you look at new orders.

And then just lastly to clean up on WMC, I guess two parts. One, the statute of limitations comment Keith you are thinking end of this year is statute of limitations on what the ‘06 advantages and so that’s why this doesn’t look like it has a long tail. And did I hear the reserve really didn’t change a whole lot even though the claims went up dramatically. And maybe I missed something there, but can you explain that.

The statute of limitations is, I’m not giving any legal advice but the limit that we are seeing that people are reacting to is six years. And so you are right in terms of the timing by the end of this year that gets down to very small numbers of mortgages that are out there, past that period. And that, it seems to be what drove the spike in claims that happened in the quarter. Our reserve did increase dramatically. It went from $140 million at the end of first quarter to $491 million at the end of second quarter, Terry.

But the 491 relative to, what were the claims in the quarter?

Well, we have that claims balance was 562 at the end of first quarter, went to 2.7. I think the thing that you can't see in that, that there our reserve balances anticipate future claims. Incurred but not reported, it’s called. So at the end of the first quarter, the balance of reserve relative to 562 had some future claims, estimates in there. At the second quarter we have increased that estimate of future claims, it’s not quite -- it’s less than 100% of the known claims balance but it’s a significant number.

So just on disc-ops, you know EPS from disc-ops or loss from disc-ops was down for the year. Presumably that number goes a little higher as we move into the back part of the year.

Well, we think we have reserved appropriately. You know I think the problem is that you just have to watch these long tail liabilities. We anticipate a significant additional amount of claims in WMC, we will have to see how we do against that. And in Grey Zone, we need to see those claims decline as we go through the second half of the year. Right now we believe we are appropriately reserved.

Out next question comes from Shannon O'Callaghan with Nomura.

So Keith, maybe could you walk through the big components of the $555 million year-over-year increase in real estate?

Sure. If you look at the variance on earnings -- let me get the right numbers for you. Lower marks and impairments, so we had 7 million of credit costs and on a variance item versus last year that’s s couple of hundred million dollars of benefit. $256 million on marks and impairments. And we also had, the last year we had real estate losses that were not tax effected, so that was something that increased probably the one time benefits in there, a little over $100 million in the quarter for real estate. And the base income is better from the core of business on earnings on both the debt and the equity portfolio. I mean at the end of the day when you look at what really has happened is when you go do global valuations, we did not have declines and valuations on either the debt or the equity book and that just changes the profile of earnings and real estate. And then you earned a little bit by selling some properties and having some gains.

So I mean relative to this, you said the tax rate didn’t run through that, I mean the tax...

No, the sale of BP is not in here but last year we had losses that were not tax affected, and as a result this year by having none of that you have an improvement year-over-year in taxes.

Okay. But sequentially moving forward it doesn’t sound like there is anything that unusual in this 220 number.

I think you know you are plus or minus $50 million-$70 million on a run rate from taxes. Other than that I think if we don’t have any valuation changes than you continue to see the market where we are. We feel pretty good about the outlook for the business.

Okay. And then just on the pricing in energy, gas and wind turbine is down on units but the pricing is up, I mean last year the pricing was down a bunch in those segments, particularly in 2Q. I mean was some of this easy comp or was it mix or does that all feel real to you?

Help me out with what you are on, are you on orders or sales?

I am no orders. So I think you said up 5 last year, there some significant order pricing declines on orders.

Absolutely.

You know, Shannon, I think there is always mix, kind of falling through this and I am not sure that it’s going to be up five forever. But I do think we have seen it firming in commitments, we have seen that starting to flow through and I think we expect a decent pricing environment going forward.

I mean you can see it swinging right. You know as you said last year, Q1, Q2, Q3, down six, down ten, down seven on thermal. Q4 down 12, Q1 was down one, Q2 was up five. Our estimate for the year right now is this should be somewhere around flat but it’s definitely changed the dynamics of supply and demand here on pricing front.

And just last clarification from me. You offset the lower tax rate in the quarter with restructuring GE Capital. Now it can be lower for the whole year. Are you going to ramp your structuring to offset the incremental benefit or how is that going to work?

Well, it is in the detail for the run rate. Now you are somewhere in the mid-single digits. So the disconnect in the quarter was the capital benefits of tax were in GE Capital and the restructuring was mostly in corporate. But right now it will be in the capital run rate at somewhere in the mid-single digits.

But for the second half we now have a lower capital tax rate then we assumed before. Are you going to offset that 5% difference with some more restructuring or is it just going to flow through.

I don’t have it planned that way. We are looking at restructuring associated with the cost out and we are evaluating what we can do to continue to accelerate the actions to simplify the company and improve our margins. So there are activities we are working on but we don’t have it planned that way Shannon.

The next question comes from Deane Dray with Citi.

For GE Capital and specifically commercial lending, can you comment on net interest margin on new business being written versus business that’s rolling off?

I don’t have that number Deane. I will have to have probably get back to you with it.

But I think the net interest margin is very positive. Like most of the metrics being around margins are improving but I think we can get you....

For (inaudible)...

We can give you what the flow through is.

Do you have it broadly for capital? Because that had been a data point in the recovery that we saw, significantly better net interest margin...?

It was up 50 basis points year-over-year.

Yeah, I think NIM captures some of that, I think Deane.

Okay. And then on the tier one comment, just to make sure I have the math right. With the resumption of the dividend that does put some pressure on tier one. It may be by 20 basis points or so, but can you calibrate the impact there?

Well, the earnings more than offset it in the capital ratios. If you look in the supplemental charts that we have sent out, there is a breakdown of the impact on the tier one ratios from earnings growth, foreign exchange and dividends.

And then lastly, Keith, can you comment on how the tax benefits should help provide some ability to take down GE Capital assets faster. Will that be towards the red assets? And is that still about $80 billion in expectations for the balance of the year?

I think the example we are using here is business properties. We had an opportunity, we have a negotiated transaction to sell $5 billion of real estate assets. The fact that there is a tax benefit associated with the structuring enables us to remove $5 billion of assets that were earning around $50 million. So it’s a onetime transaction and it’s an example. (inaudible). For us shrinking $5 billion of real estate is a good move strategically for the GE capital business.

You know, Deane, if you think back over the last few years, we beat every commitment on the side of GE Capital. And one of the things I said at EPT is that I think we are all aligned behind as to continue to make GE Capital smaller and more focused. And we are going to continue to do that and I think BP is a good transaction for us.

Yeah. The red ending investments of about $75 billion, it’s around 17% year-over-year. And the BP transaction is a good example of the team continuing to do a good job of running these assets. Now if you look at the supplemental you can see the dividend was 60 basis points on the tier one. And the earnings added 30 basis points and that’s pretty much why we went from 10.1 to 10.4 from Q1 to Q2. And even with that though, if you look year-over-year, we are at 10.1, a whole point up even with the dividend, on tier one common. And in addition when you look at total capital, the preferred stock that we issued enabled us to build our non-common tier one capital and still enabled us to pay a dividend of $3 billion to the parent, keep the capital ratios above what we think we need to have.

The next question comes from Steve Winoker with Sanford Bernstein.

So first question on the order growth rate. How much -- to what extent did acquisitions contributed at all to that number. What would it have been organically?

The total was about -- yeah, most of the acquisitions now as you get through the second quarter are all in the run rates.

And FX was what, about...

2 points.

Two. So about two. Yeah. So it was kind of flattish.

Okay. And then on the GE Capital reserving front. I think that was page nine in the supplemental. You know you talked about the environment continuing to improving, continuing to improve, reserves coming down to 1.86% now from, I guess 2.26 in the second quarter of ’11. Just give us a sense maybe on the environmental side, I mean obviously a lot of this is driven by the U.S. and by your activity that you are seeing, but at the same time we are seeing so much uncertainty and volatility globally. And with what's going on in Europe and you guys have a fair bit of assets over there. So how do you think about this? Being able to take reserves down relative to...?

You know the reserves aren’t being taken down, the write-offs are in excess of the reserves. We had about $100 million of impact of the balances of reserves from FX. But if you look at the numbers by business, the delinquencies are down in every single set of our operations except for the mortgage which is up seasonally. Non-earnings are down in every single one of our businesses. Our write-offs are down in every single one of our businesses, quarter-over-quarter and year-over-year for all three of those metrics. So we continue to have a portfolio that shows improvements in its performance. And I think you are getting to run rate levels of new provisions on new business. And the only thing that will change that will be the mix between retail which obviously is higher reserve levels and the commercial which has lower reserve levels.

But are you seeing that the -- question is in terms of the progression to the quarter maybe or any kind of risk as you look out where you feel like that provision rate is in any way at risk as we head into what is potentially a more difficult macro environment?

Well, we have been in that environment for quite some time in Europe. I think the team has had to take a lot of operating actions, right. We have been very prudent from a risk perspective on increasing our underwriting standards. We have lowered our open lines on credits that were less creditworthy, in Europe. I mean it’s a full core press from the risk team about reducing our exposures in places where we don’t want to have them. We had to add reserves and take some provisions in Italy. I think that’s a tough place. You know previous quarter we had some in Hungary, but that stabilized. That was really a legislative change on mortgages. You know we are watching the Spain consumer business, that’s obviously a tough place. But things like the UK continue to perform, non-earnings are down, delinquencies are down. Delinquencies were up a little bit seasonally but they are less then what normally we would have. And the main drivers as we shrink that book, the non-earning assets and the delinquencies are a higher percent, it’s not that they are going up in terms of dollars. So I think that the risk team has done a really good job in cooperation with the operating team. But right we are at run rate levels if we have specific things that happen we will reserve for them. The biggest change you are seeing across this portfolio is obviously the improvement of real estate values globally. Both the debt and the equity book in the quarter, from a valuation perspective on the work that we did on the assets that were covered, had increases in the valuations. That’s the first time in years you know versus the pressure we have had in the equity and the debt book for almost four years here, Steve.

Okay. That’s helpful. And then just maybe last comment on China. What are you guys seeing a little more broadly in terms of demand over there and that trend, given the....

You know, Steve, we are in a little bit of a different sequence because we are more long cycle oriented stuff. So I think the revenue is up 20% plus in the quarter. Orders slightly below that but still pretty strong and healthcare is very strong. There is a conversion between coal and gas in the power sector. There is, aviation remains pretty strong. So we are not on the short cycle side we are more long cycle driven in China. And we still see a decent environment for us.

Just to give you some numbers. The revenue was [14], up 24 as Jeff said. If you look at energy, it’s up 34, aviation was up 26 in the quarter, healthcare was up 24%. The orders are a little slower, they are up 6, but there are also some of the backlog is what we have there. So this is a pretty good performance. We expect a very strong performance across the year for China.

Our next question comes from Julian Mitchell with Credit Suisse.

Firstly on energy, you know it’s a slightly odd disconnect where your service orders are down and the prices on the equipment are up. I mean is there some risk, I guess do you have sort of a big catch up on service, spares and that’s now sort of run out of steam? Because I guess you know the improving fundamentals behind equipment orders and therefore pricing you think should reflect in service as well?

I don’t think there is any risk of that. I think what we saw in the business in the quarter from an orders perspective were that the customers are running their gas turbine as a result of low natural gas pricing. If you look at the revenue in energy and services, it was pretty solid in the quarter. So our team has positive outlook as a result of the current operating environment. And for us it’s a question of when does it come through.

Okay. Thanks. And then on healthcare. I guess that was the business that had pricing down. You know how worried are you about the ability to drive earnings up year-over-year in the second half. I understand that the Latin American mis-execution normalizes but pricing is running at, what minus 1.5.....

You know, Julian, pricing is about -- that’s just kind of the nature of the business. Because it’s a little bit on -- you know you are a little bit on the confusing learning curve. So that’s been kind of nature. The CM rates are still pretty strong and I think that in some ways it’s a little bit of apples and oranges. So I think we see a U.S. healthcare market that’s kind of flat, maybe up a couple of points. As Keith said, Europe is very tough. But the emerging markets in healthcare are pretty dynamic. And I think at EPG we said healthcare is the one plus to two plus, so up single to double. We still think healthcare is going to have a good solid second half of the year.

You know the orders, if you look at the book to bill in the quarter, they were 1.11, at the half it’s 1.08. They’ve built a little bit of backlog. They need to execute. That’s what we are looking for in the second half here, Julian.

Great. Thanks. And then finally the industrial CFOA was down year-over-year in Q2. Was that just around sort of working capital relating to wind orders or....?

It’s really two things. We had about $200 million of pensions funding, we haven’t had that before. We expect that to be about $400 for the year. But as you know in the K we put out, it was going to be $1 billion for the year. So 600 better for the year than we said. And then we just built inventory. We have built a billion plus of inventory in the energy business and as you said it’s mostly related to the wind. In the second half here we are going to deliver close to 1800 to 2000 wind units. Almost of the full amount of volume we had for all last year. So we got a good outlook here in the second half in energy and wind is going to be a big part of that.

Let me just go back to what Keith said on pensions just to make sure you guys understand it. So originally I think our funding for this year was going to be a billion....

1 billion, yes.

Now it’s $400 million. So its $600 million better. And I think we have put in the K...

2.1.

We put 2.1. So now we think that’s going to be....

100 million...

Extremely small, may be less than a 100 million. So that’s a big benefit in cash over the next few years that investors should understand.

The next question comes from Jason Feldman with UBS.

So regarding the discontinued operations charges, WMC and GE Money Japan. Are there divested finance assets where there is still recourse or retained liability that have the risk of popping up like this. Are these really the two big ones that are out there?

These are the two.

And on wind, obviously it’s challenging today, it’s a cyclical market and the products tax credits are expiring. So how do you feel about that business longer term? Given changing economics of low gas prices and a fairly crowded competitive environment in wind.

You know we said that in the next year we anticipated $0.03 down versus this year in wind. So we are kind of getting ready for that. You know the industry is reforming kind of outside the United States right now. So we have got some big orders in places like Brazil and Canada and Australia, Turkey, places like that. You know we have navigated the cycle as well as anybody. I think we probably make as much money as the rest of the industry combined or something like that. And we have a pretty good window on the future. So we haven’t....

Return on capital is almost infinite here.

We haven’t over-invested. We have got a very flexible supply chain. So I think we are just going to kind of ride the wave. But we do think that its $0.03 headwind next year and we are already taking action to kind of be able to offset that.

Okay. And then lastly, you mentioned the potential $5 million of real estate divestiture. There was the EverBank deal a couple of weeks ago. Has the environment for potential asset sales improved materially recently or is this just at the right time and you have had kind of unique opportunity that should be taken advantage of what's out there.

Sure, it’s a steady improvement. You have seen us talk about the valuation changes in real estate, quarter-to-quarter-to-quarter. And this is another sign that the market is getting better. I mean we are able to move $5 billion of real estate assets at a gain to the company in total. And the team is going to continue to work on that. So I think, yes, valuations have continued to improve. Liquidity is coming in the marketplace. If you got a good property with a decent lease, you can extract a good price in this low interest rate environment. Stabilization of valuations in Europe, the valuation in Europe was better than we anticipated as we closed the first quarter. And we expect that to continue.

Our next question comes from Christopher Glynn with Oppenheimer.

Had a question on the different margins factors in the back half of the year, year-over-year versus with the one half. We are looking at volume leverage, better price flowing through and the anniversary of the acquisitions. Can you kind of gauge what are the relative imports there?

Sure. I think, Jeff said that value gap is going to be positive. That’s the difference between the pricing we are getting in the raw material inflation that we experience, or deflation. That is positive 100 in the second quarter. We expect that to continue. R&D as a percent of revenue, we have talked about that a lot, we have peaked as a percent of revenue. We are still at a very high level in terms of revenue but it’s peaked in terms of the impact on margin. Our total cost productivity which is our ability to continue to deliver new volume and take advantage of leverage, it was positive four tenths of a point in the second quarter. We expect that to continue. And the one dynamic that we are working our way through is the equipment and service margin mix. But as Jeff said, we expect margins to go positive in the third quarter. And they will be positive in the fourth quarter and to get to the 30 basis points we need an average of about 80 basis points in the second half. And that’s what our teams are working on right now.

Okay. And then on the turbine Flex launch in the second half. How are you viewing that now? And is that impacting current demand and how do you view the lag to regaining some share and competitive parity?

You know, Chris, I think the Flex launch is going well. We have had some great wins in Japan in the second quarter that were fantastic. And I still think our gas turbine share is going to be somewhere between 40% and 45%. So we want to retain kind of historical averages for that and we will continue to invest in new NPI in the gas turbine product line as well. So again, I think this is really important for us and Flex has gone well. And I think you will continue to see strong NPI efforts from GE.

Our next question comes from Jeffery Sprague with Vertical Research.

I guess I really don’t understand your pensions strategy. I mean I understand the obligation has gone down under this law change. But your annual benefits payable like $3 billion a year. Other companies have kind of remarked, yeah, there is a lot of change but we don’t want to let ourselves get further behind. Just kind of surprised with the posture you are taking there and how do you see pensions playing out as you look further beyond 2013?

Well, we have taken a lot of actions here. I think the most important action that we took was we closed the plant to new employees, Jeff. Now you may not be aware of that but as a result of that action the change in the future liability has dramatically -- the curve has dramatically changed. And it’s a huge amount of pressure we have taken of that pension plan in terms of the earnings rate that has to be realized over time. I think the benefit payments are less than what you talked about. I don’t have the exact number but it’s not the size what you said. And our team is working on a risk reduction strategy. You know we are not going to full risk-reduction in terms of going 100% to risk off in bonds. But we are reducing our risk seeking exposures as we become additionally more funded from a [risk] gap perspective. So the team has got a good asset allocation plan. They have got a good track record on the turns. We have cut the future tail of this liability by closing the plant to new employees. And we were going to fund a billion this year, we are going to fund 2 billion next year. We know, our anticipation is we will be fully funded in a couple of years. This change in ERISA funding doesn’t really change our outlook much on what we think we are going to do in terms of how we get to fully funded in that pension plan. And we are not seeking additional risk to do it.

And I was just looking at the Annual Report that shows $3 billion in 2012, and actually shows it’s going up in the next four or five years, not down.

I don’t think that’s $3 billion. That includes all the healthcare costs, that includes the retiree and employee healthcare costs. It’s about a billion dollars on pension, Jeff.

Okay. It says principal plan. Just on GECAS, obviously kind of all the NEOs and everything was so new last year that there was no impact. Obviously, you are going to roll up your sleeves in Q3, I mean you obviously gave us a heads up to be on alert through this. Is there some early thoughts on what we should expect.

I don’t have any signals from the team of anything unusual. We continue to reduce our exposure to older assets as you know and we have taken some impairments quarter-by-quarter-by-quarter on some of the older assets that are less fuel efficient. You know our fleet is in pretty good shape in terms of the percent of older assets. And I don’t anticipate anything abnormal here in the third quarter, Jeff.

Our next question comes from (inaudible) with Deutsche Bank.

Just wanted to turn your attention to energy margins in 2013. I think everyone knows that wind will take a step down in 2013. How confident are you that you can margin or you can even grow margin with let's say $2 billion less volume.

Well, just on a wind basis alone if you move to right business at the margin, you are going to have a margin increase.

That’s cheating. That’s....

Well, that’s reality. I mean we’re getting penalized for this year Jeff.

Well, let's step through it. Let's (inaudible). Value gap positive, so you are going to have pricing ahead of deflation. We see pretty good headwind on that. I think we are going to have a good services mix next year. I think we like the way services could line up for next year. Structural cost down. You know again you are talking about, you know guys I would reiterate, we have said we are going to take $2 billion of cost out of ’12, 13, and ’14. And we are on our way to doing that. And that’s going to take G&A as a percentage of revenue, it’s going to go down a couple of 100 basis points around this place. So you are going to get some structural cost out. So you are going to have good value gap, you are going to have positive mix, you are going to have pretty good service and you are going to have structural cost down. You know I think that is a pretty good line up.

Right. But looking at wind in itself. I know it’s a highly variable cost business. If we get on from say seven to say five, what happens to wind margins next year?

I would bet that wind, just intra-wind, right. [Niger] that’s what you are asking?

Exactly.

Yeah. Wind margins will probably go down a little bit. But it’s really de-verticalized business, and so I think it’s not going to be kind of what you think. But just because of the volume we have this year, my hunch is that the margin rate, just intra-wind, will probably go down slightly.

Okay. And then moving to the broader energy business, the move to the positive pricing orders is great news. Can you just remind us what is the lead time on pricing in the order book. When do we see that coming through the P&L?

12 to 18 months.

12 to 18 months, yeah. By product line.

And then stripping out energy management, that’s $6 billion BU. I think it will be a small segment by far. Is the intention to grow that, if we are thinking about this sort of acquisition funding going forward? You know should we view energy management as up there, top one or top two?

You know I think there is segments within energy management [Nigel] that we like, that we might do some of the smaller acquisitions in. I think the key thing is again to give investors kind of pure play on the power generation side, a pure play on the oil and gas side and a pure play on the energy management side. And I think that’s what many people have been asking for and that’s what you are going to get in the structure.

Okay. And then finally, I don’t want to get too deep into the weeds of corporate expenses. But it’s a tough line to model and it seems to be running above the $3 billion expansion guidance for fiscal ’12. Are we still running towards that, Keith, or should we expect that to come down in the second half of the year.

Say that again?

The $3 billion in corporate. While we are still running through the...

Yeah $3 billion corporate for the year, yes. We are about $1.5 at the half and there is some ups and downs on the one timers. But that’s the estimate for the year. Yeah.

Got it. Thanks.

I just want to -- the pension out of the (inaudible) is about $3 billion. I am sorry, Jeff is right. Sorry about that.

Our final question comes from Steve Tusa with JPMorgan

I just had a follow up. So on the energy services decline in orders, what you are saying is they are running their plants so you are not seeing kind of the normal kind of pace of orders. I guess that would suggest that I mean at some time they have got to service these things and if they are running in for a longer hour. So is that actually a push out business?

Yeah, I think, Steve, like the flow orders that would tend to happen and shut downs and stuff like that are slower because the guys are running the plant. So I think...

But that’s got to come at some point all right?

You know again, with cheap gas prices everything we thought about this is true. Guys are running the plants hard. And they are pushing out service and stuff like that and I think that will come back at some point.

No further questions. At this, Mr. Schauenberg, do you have any additional remarks?

Yes, thank you everyone. The replay of today's webcast will be available this afternoon on our website. We are distributing our quarterly supplemental data schedule for GE Capital as we always do today. Just a couple of few announcements here regarding investor events. Jeff Immelt will be hosting a GE Infrastructure Investor Meeting which will include all of our infrastructure business leaders. The meeting will be held on Thursday, September 27 in the New York City area. More details regarding the event will be sent in the upcoming weeks. We hope everyone can make it. Finally, our third quarter 2012 earnings webcast will be on Friday, October 19. As always we will be available to take the questions there. Thank you, everyone.

Ladies and gentlemen that concludes the presentation. Thank you for your participation, you may now disconnect.