Illinois Tool Works Inc. (ITW) Q3 2013 Earnings Report, Transcript and Summary

Welcome, and thank you for standing by. [Operator Instructions] Today's conference is being recorded. If you have any objections, you may disconnect at this time. Now, I would like to turn the meeting over to Mr. John Brooklier, Vice President of Investor Relations. Sir, you may begin.

Thank you, Brandon. Good morning, everyone. And welcome to ITW's Third Quarter 2013 Conference Call. Joining me on today's call is our President and CEO, Scott Santi. And I would also like to introduce and welcome a new member of the ITW team to today's call, our new CFO, Michael Larsen. As many of you may recall, Michael joined us last month from Gardner Denver, where he served as both CEO and CFO during his time there. I know Michael looks forward to meeting both our current and prospective investors, as well as the analysts who cover us. During today's call, Scott, Michael and I will discuss our strong Q3 financial results and also cover our newly updated Q4 and full year forecast. Before we continue, let me do a few housekeeping items. I'd like to remind you that this presentation contains our financial forecast for the full year and the 2013 fourth quarter, as well as other forward-looking statements identified on this slide. I won't read through the entire slide, but I'll let you do that as I move to the next slide. One other housekeeping item. The telephone replay for this conference call is (866) 431-5846. No passcode is necessary, and the playback for the call will be available until 12 midnight, the night of November 5, 2013. Now let's move on. Let me introduce our CEO, Scott Santi, who will comment on our Q3 performance. Scott?

Thanks, John, and good morning, everyone. Overall, I was pleased with our third quarter performance. In an economic environment that remains choppy at best, we were able to deliver solid operating results while we continued to make meaningful progress in the execution of our enterprise initiatives. From a geographic perspective, while we are seeing pockets of growth in the Asia-Pacific region and Europe appears to have stabilized, North America remains a mixed bag. Against this backdrop, our Automotive OEM segment continued to deliver strong growth with organic revenues up 11.5% in Q3 versus worldwide auto builds that were up 4% in the quarter. In addition, we saw a noticeable improvement in the growth trajectory of our Food Equipment segment, where organic revenues were up 4.4% in the quarter. In terms of segment performance, one other element I would highlight is the 250 basis points of year-on-year margin improvement delivered by our Construction Products segment in the quarter. As I have noted previously, we are focused on getting our Construction margins up to ITW standards, and our Construction Products management team made solid progress in this regard in Q3. Regarding earnings, Q3 EPS of $0.90 came in $0.02 higher than the midpoint of our forecast. Per our announcement last month, we revised our earnings forecast to reflect our plan to divest our Industrial Packaging business and the associated reclassification of the segment into disco. While this -- with this move, we believe investors now have a clear line of sight on our go-forward portfolio and its underlying earnings growth potential. On our enterprise initiatives, our worldwide management team continued to lead solid execution throughout the organization in Q3. In the quarter, we got 80 basis points of margin contribution directly from our enterprise initiatives, which drove overall enterprise operating margins of 19% in the quarter, a rate that was among the highest in the history of the company. A final word on capital allocation. We continue to remain return-focused on the best ways to utilize our capital. As you can see from our Q3 results, we continued to generate strong levels of free cash. Our free cash conversion rate through the first 9 months of 2013 was well over 100%. Year-to-date, we have returned nearly $1.6 billion to shareholders in the form of share repurchases and dividends. And as a reminder, we also announced last month that we intend to utilize our existing share repurchase authorization to offset the full amount of EPS dilution associated with the divestiture of Industrial Packaging. Now let me turn the call over to Michael, who will now cover Q3 financial highlights. Michael?

Thanks, Scott, and good morning, everyone. First, let me say that I'm very pleased to have joined the ITW team at such an exciting time for the company. I look forward to working with our talented worldwide management team on executing our enterprise strategy, with a strong focus on creating long-term shareholder value. It's great to be here. Okay. Before I go through our third quarter results, let's start on Slide 5. And since there are a few moving pieces this quarter and not everyone's estimates have been updated since the announcement of September 24, I'd like to quickly walk you through EPS guidance versus actual for the third quarter and full year 2013. On September 24, we announced the sales process for our Industrial Packaging segment and moved IPG to discontinued operations, which at the midpoint reduced third quarter EPS by $0.14 and the full year by $0.53. At the same time, we announced a $0.09 discrete nonrecurring tax item related to foreign earnings in Australia. And as a result, we reduced our 3Q EPS forecast midpoint from $1.11 to $0.88 and the full year 2013 from $4.20 to $3.58. Our actual third quarter results had diluted EPS from continuing operations of $0.90 or $0.02 better than the September midpoint, primarily as a result of better operational performance. Adding back the $0.09 tax item, our third quarter adjusted EPS was $0.99, an increase of about 12% versus prior year when you exclude the 2012 Decorative Surfaces operating results. Turning to Slide 6, let me give you some additional detail on our third quarter performance. As Scott said, this was a good quarter as the ITW team executed well and delivered solid margin expansion and strong cash flows. Total revenues of $3.6 billion increased 2.9% versus prior year. Again, this is excluding Decorative Surfaces. Worldwide organic revenue was up 0.4% as growth internationally was partially offset by North America, and revenue from acquisitions contributed 2.4 percentage points. While we continue to see a mixed economic environment and had some comp challenges in one of our segments, growth rates in the quarter were encouraging as they improved sequentially from the first half of 2013, and we saw solid growth in several of our segments. We'll get into more detail on geography and segments in a few minutes. Operating income was $678 million, up 8.4% versus last year, and our operating margins were one of the highlights of the quarter at 19%, 110 basis points higher than last year. We're pleased with the progress and momentum on our strategic initiatives as we enter into the fourth quarter and 2014. And while 19% operating margins in the quarter and 17.8% on a year-to-date basis are positive signs, we clearly expect that there's more to come as we execute well on the strategy. On Slide 7, organic revenue is up 0.4% for the quarter versus being down 1.1% in the first half of '13. We continue to see strength in Automotive OEM, up nearly 12% organically. And we're also encouraged by a 4% organic growth in Food Equipment, including growth in the higher margin service business. We also saw positive across-the-board momentum in our North American Construction business, which increased 9%. As usual, John will cover the segment performance in greater detail in a few slides. Looking at organic growth by geography, our international revenues were up 2.9% in the quarter, with Asia-Pacific organic revenues increasing nearly 7%, led by strong growth in China. Our European organic revenues were positive, up 1% in the quarter, which marks the first quarter of organic growth in Europe since the first quarter of 2012. While our North American organic revenues decreased 1.4%, the softness was largely driven by electronics assembly platform. As we mentioned last quarter, we're dealing with difficult comps from last year, which will ease here in the fourth quarter. Excluding the electronics assembly platform, our total company organic revenues are up 2.6% in North America and up 2.9% on a worldwide basis. Acquisitions added 2.4 percentage points of revenue growth, led by 2 international acquisitions this quarter, a European Consumer Packaging equipment business and a Chinese Food Equipment business, which gives us entry to the fast-growing Chinese Western cooking industry. I should mention that while it's still early days, the acquisitions are performing in line with our expectations. Like I mentioned, operating margins for the quarter were 19%, up 110 basis points from last year, as base business margins were up 120 basis points. Key drivers of the margin expansion was 80 basis points from our enterprise initiatives, largely related to our simplification initiatives, as well as benefits from strategic sourcing. Price cost favorability also improved margins 30 basis points. In summary, we're encouraged by some of the recent revenue trends in the quarter and remain focused on executing on our enterprise strategy to deliver our margin expansion, cash flow and strong returns. On Slide 8, free operating cash flow of $732 million for the quarter was an increase of 34% versus prior year. And on a year-to-date basis, net cash provided from operating activities was about $1.8 billion. Capital expenditures were $257 million, resulting in free operating cash flow of about $1.6 billion as we converted free operating cash on 110% of adjusted net income on a year-to-date basis. Returns are also trending well as adjusted return on invested capital on a year-to-date basis was 16.3%, 110 basis improvement versus last year. On Slide 9, a quick update on our disciplined capital allocation. In the third quarter, we repurchased 5.2 million shares, and on a year-to-date basis, we repurchased 15.6 million shares. Our ending share count for the third quarter was 443.8 million shares. The remaining share repurchase authorization is approximately $6.8 billion. And as announced in September, we intend to utilize it to offset the IPG divestiture-related EPS dilution by repurchasing approximately 50 million shares funded through a combination of sales proceeds, free operating cash flow and additional leverage. Our debt ratios, as you can see, are largely unchanged. And considering our strong balance sheet and cash flows, we continue to have plenty of flexibility from a capital structure standpoint. With that, I'll turn it back over to John for some additional color on the quarter. John?

Thanks, Michael. I'll take just a few moments to review our Q3 geographic trends on Slide 10. As Michael noted earlier, our reported organic revenues increased 0.4%, with international revenues growing 3% and North America organic revenues decreasing about 1%. Internationally, an important number for us was European revenue growth of 1% in Q3. This gives us even more conviction that at a minimum, Europe has formed a strong base level. We also like what we saw in China and Australia/New Zealand. Organic revenues grew 22% and 5%, respectively, in the quarter. Now let's move to Slide 11. For our Q3 segment results, I'll cover the underlying organic growth details for these and other segments on the following slide. Let's focus on the profitability side. It's important to note that in aggregate, we had 6 out of 7 segments produce operating margin gains in the quarter, with Auto OEM, Polymers & Fluids and Construction Products generating operating margin improvement of at least 200 basis points in the quarter. We are encouraged by the breadth of contributions to our improving operating margin performance. Now let's move to Slide 12 and take a brief look at our reporting segments. Starting with our Test & Measurement Electronics segment, organic revenues declined 12%. By category, total Electronics organic revenues fell 21%, largely due to the aforementioned comp issue related to our electronics assembly business. The better news is that we expect this comp to be far less negative in Q4. Also, please note that our other group of electronics businesses, which include the majority of category revenues and consist of adhesives, contamination control, electronic packaging and electrostatic control products, that part of the portfolio grew 5% in Q3. In Test & Measurement, organic revenues declined a very modest 1%. And to put this segment profitability in context, please remember that operating margins for the entire segment still totaled a solid 16.3% in Q3. On the Automotive OEM segment, once again, it was ITW's fastest growing segment. In total, Auto OEM's organic revenues grew approximately 12% versus a worldwide auto build of 4%. In Q3, the story was the same as prior quarters. Our advanced value-added engineering of products to worldwide OEMs helped us grow well above auto builds. By geography, international organic revenues grew 13%. And notably, European organic revenues increased 9% even as auto builds only grew 2% in that region. In Asia Pacific, our organic revenues grew 24%, thanks in large part to our rapidly growing China auto business, which was up 40% in Q3. And by comparison, China auto builds were only up 9% in the quarter. And in North America, organic revenues grew 10% versus an auto build increase of 6%. All in all, this was another very strong quarter of growth and profitability from our Auto OEM business. In our Polymers and Fluids segment, organic revenues were flat but showed sequential improvement from prior quarters as we started to anniversary easier comps based on some of the product line simplification activity from 2012. Segment organic revenues declined 7% in Q1 and decreased 4% in Q2. In Q3, the best news stem from our auto aftermarket businesses that produced organic revenue growth of 2%. Growth in this category was driven by our North American engine repair and car care businesses. In our polymers and hygiene, as well as fluids categories, organic revenues declined 1% and 2%, respectively, due to residual PLS activities and assorted end market weakness in these platforms. In Q3, however, operating margins hit 18.1% for the segment. And as noted earlier, that's 220 basis points higher than the year-ago period. Moving to Food Equipment. We clearly saw improving end market conditions and better sales focus drive the best organic performance of the year for Food Equipment. As Scott noted earlier, total organic revenues grew 4% in the quarter, with strong growth and profitability contributions from the North American and international equipment and service businesses. In North America, equipment and service-related organic revenues grew 2% and 8%, respectively. The growth in North America service was due to new customer signings. Internationally, equipment and service produced organic revenue growth of 4% and 5%, respectively. And the growth in international equipment relates to new product launches from our European warewash business, as well as better sales from our U.K. refrigeration business. Operating margins of nearly 20% were 90 basis points higher than the year-ago period. Moving to the Welding segment. Worldwide organic revenues declined 4%. Organic revenues for our international North American categories decreased 11% and 1%, respectively. Notably, equipment revenues were positive, but consumable revenues were negative in the quarter. Internationally, organic revenues fell largely as a result of our Asian business continuing to transition its portfolio from the low-margin shipbuilding revenues to higher-margin business associated with oil and gas as well as infrastructure projects. In North America, organic revenues were modestly negative. Despite lower-than-expected organic revenues in this particular segment, operating margins continued to be very strong at 25.4% for the quarter, and that's 90 basis points of improvement versus last year. We should note our Construction Products segment, we produced an array of encouraging numbers as organic revenues grew 3% for the entire segment in the quarter. North American construction organic revenues increased 9%, with residential up 13%, renovation up 16% and even our commercial construction category was up 5% versus the year-ago period. So good news on the North American side. Internationally was a tale of 2 geographies. Asia-Pacific organic revenues grew 4%, largely on improving markets and better sales activity in Australia/New Zealand. In Europe, organic revenues declined 4% as government spending and commercial construction projects remained a bit weak. Notably, segment operating margins continued their upward climb during 2013 to 16.2% in Q3. As mentioned earlier, that's 250 basis points higher than the year-ago period. In Specialty Products, segment organic revenues grew 2% in the quarter, and segment growth was helped by 3% worldwide organic growth from our Consumer Packaging business. Within Consumer Packaging, Q3 highlights include new business pickups at our Hi-Cone Brazil business, as well as growth in our warehouse automation category of businesses. The offset to that was worldwide appliance, where organic revenues declined 1% in the quarter as white good sales were sluggish in Europe. Q3 segment operating margins of 21.1% remain strong or 150 basis points higher than the year-ago period. Now having done that, let's turn the call back over to Michael, who will update you on our Q4 and full year forecast.

All right. Thanks, John. So on Slide 13 and as a reminder, our forecast has IPG and discontinued operations and our 2012 comps on this page exclude Decorative Surfaces. So starting with the fourth quarter, we expect diluted EPS from continuing operations to be within a range of $0.85 to $0.93, which assumes total adjusted revenue growth of 2% to 5%, and organic year-over-year growth slightly higher than the third quarter. Keep in mind the typical revenue seasonality from the third to the fourth quarter. Fourth quarter restructuring is in line with the third quarter, and we expect a tax rate of approximately 29% in line with prior quarter guidance. As announced, we are actively repurchasing shares. And while we can't comment on the specific number and timing, we have plans to repurchase more shares in the fourth quarter than we did in the third quarter. So for 2013, we expect diluted EPS from continuing operations in the range of $3.56 to $3.64, with the midpoint of $3.60, up 12% from prior year and up $0.02 from our September guidance, primarily as a result of our third quarter performance. If you look at the walk at the bottom of the page, starting with our 2012 adjusted EPS of $3.21, base performance and initiative at $0.33 for the year and the other major positive driver here our share buyback program at $0.17 and partially offset by pension and restructuring, which takes us to our 2013 forecast midpoint of $3.60. And with that, I'll turn the call back over to John for Q&A.

Thank you, Michael. We'll now open the call to your questions. [Operator Instructions] We will compete the call at the top of the hour, so that leaves roughly 40 minutes for questions. We're now ready for questions.

[Operator Instructions] Our first question is from Jamie Cook. Jamie L. Cook - Crédit Suisse AG, Research Division: Two questions. One, on the Construction side, if you could just give a little color on how you think about the margin improvement, what sort of revenue-driven versus what you've done internally? And it also looks like for the first time in a while, commercial construction has turned the corner. So if you could give any color on that front, that would be helpful as well.

Yes, I would say that from the standpoint of overall margin, significantly more than 1/2 the improvement was what I would describe as structural cost improvement rather than revenue-driven. And from the standpoint of commercial activity in North America, what I would say right now is we're certainly encouraged by the uptick we saw in Q3, but I think it's a quarter or 2 more before we call it a trend.

Our next question is from Steve Volkmann.

I'm going to switch to Automotive if it's all right. Obviously, you guys had been outperforming the market for quite a while here. I guess I'm just trying to think over the next few quarters. As you look at programs that you're on, I would think you'd probably have some visibility into sort of how long this can continue, and I'm curious about your thoughts there.

Yes, I would say based on -- we have about 3 years worth of forward visibility in terms of new content that we are engineering and selling-in. And sitting here today, we feel pretty good about the next 2 or 3 years in Automotive, for sure.

So you'll continue to outperform whatever builds are?

I would expect that, yes.

Okay. And then just a quick follow-up, where is your comfort level on whatever ratio you want to use, debt-to-cap or debt-to-EBITDA or whatever? And how much leverage theoretically would you be comfortable with as we go forward here?

Yes. So what I'd say is we're working through the plans here for 2014. Obviously, if you look at our balance sheet and our strong cash flows, we're comfortable with what I would describe as quite a bit more leverage. And really to utilize that for the 50 million shares that we are going to buy back for the IPG-related divestiture. So that will be -- really be a combination of continued strong free cash flow. We had a good quarter here in the third quarter, as well as the sales proceeds and then additional leverage. That would keep us within a range of, I'd say we'd be very comfortable with and wouldn't have a significant impact on our ratings. So I don't have a firm number for you as we sit here today because we're still working through the plans, but that's kind of the framework we're operating within.

Our next question is from Ajay Kejriwal. Ajay Kejriwal - FBR Capital Markets & Co., Research Division: Michael, welcome aboard. So maybe if on margins, obviously, a very strong quarter. A couple of things. One, if you can provide some color on sourcing. Sounds like that contributed to the quarter, so where we are versus expectations and how to think about '14. And then if you can step back, Scott, and maybe talk about the long-term margin goals that you laid out last year, how do you feel given the already very impressive performance, is that 20%-plus goal that is in sight now? Is that goal, you think, conservative?

Well, sort of first question first. What I would say from the standpoint of enterprise impact in the aggregate, we are essentially right where we expect to be. We're tracking the plan. What we talked about a year ago was the fact that the business simplification was going to be more of a contributor towards the earlier half of the 5-year period, and the sourcing initiative was going to be a larger contributor towards the back half, and I think that's exactly how it's playing out. So out of the 80 bps of contribution, certainly, you can expect that more of that -- a larger percentage of that came from the simplification initiative in Q3. And again that's, I think, right in line with what we communicated when we announced this plan a year ago. We continue to build momentum in sourcing, and it's really made a meaningful contribution in the quarter. And I think we've said previously that our overall savings from sourcing will exceed our plan in 2013. As far as the long-term objectives, I think what we said all along was our goals were 20%-plus on both margin and ROIC. This was certainly a nice performance in the third quarter at 19%. I'll remind you that's a quarterly number, what we're -- what we have described in terms of enterprise goal is sort of annual performance, so we are clearly in the third quarter, from a seasonality standpoint, in a place where the revenue helps us in terms overall margins. So it's certainly nice to see the progress and the trajectory. We remain I think very -- very comfortable and very committed to the overall enterprise goals that I've talked about or that we've talked about a year ago. This quarter represents again some nice progress and some continuing momentum. We go back to the -- just the contributions from these initiatives over the prior 3 quarters, we had 40 basis points in Q1, 60 in Q2, 80 in Q3. So I'm pleased with the momentum, what we're building behind this. But ultimately, we're not at a place where we're declaring a new goal. I think the overall enterprise initiatives still are in place and are confident that by 2017, certainly encouraged by the progress we're making that the goals that we put in place are very achievable. I'll leave it at that. Ajay Kejriwal - FBR Capital Markets & Co., Research Division: Great. That's very helpful. And one quick one on weldings. The consumables business down in the quarter. Is that just a mix shift towards higher margin products or are you seeing any change in the underlying demand characteristics?

I think the biggest impact on a global basis is really the continued downshift in China away from the shipbuilding business. That was largely a consumable position. I think North America, the overall color is and you've heard this from a lot of our customers in terms of the mining industry, some of the heavy equipment manufacturers. That's really where a lot of the sort of market pressure has been. And I think ultimately to see the equipment business be slightly positive in that environment, we feel pretty good about.

Our next question is from Rob Wertheimer.

You had called out the swings, I guess, in electronics assembly are -- previously with last year being very strong, this year, weak. Is that a business that's going to continue to sort of careen back and forth? Can you talk about where you think the normal volumes might be and whether you're -- which way you're sizing for?

Yes, I -- the way I would describe it is the real sort of volatility in terms of comps that we're dealing with relates to a single customer and what I would describe as a very one-off kind of situation last year. So obviously, a significant impact in the quarter when we're talking about almost 3 full percentage points of impact on organic growth. But I think we're very comfortable with the electronics business we have. We're not a producer of components. We are basically supplying mostly MRO-related products to that industry and where the sort of volatility as it relates to manufacturing equipment used in that industry. And on a go-forward basis, our intention is certainly not to -- or our expectation is we're not going to see this kind of volatility. We're not going to manage the business to either create or try to serve that kind of volatility on a go-forward basis. Another thing I would point out is that the core margins from an operating standpoint in the electronics business in Q3, even at obviously, a low point in the market of north of 20%, if you strip out the amortization and acquisition-related accounting. So from an operating perspective -- we had a lot of value in the business as we own in that sector, but our sort of intentions on a go-forward basis are, certainly, to manage it to -- in a way that we have much more diversity in terms of end customer and end market exposure.

That was very helpful. And then sort of follow-up on growth, I mean, you guys have been doing great on Automotive, as Steve mentioned, for quite a while now. And you have, over the many years, invested a lot in innovation. Are you able to see down the road in any of your other sub segments whether you've had an acceleration in -- and what you think your innovation payoff is going to be? Can we expect that Automotive to be replicated anywhere else?

Yes, I think the Automotive business is -- when we talk about sort of rebalancing of the overall growth focus of the company, we've talked about it before and really shifting from a growth model over the last 20 or 25 years, that was over 2/3 acquisitive to on a go-forward basis now being 2/3 organic. I think the Automotive business represents a great example of what the rest of the company ultimately is in the process of becoming. We get there, in large part, through a lot of the portfolio work that we've been doing. So as we refocus the portfolio only on areas that have the ability to drive innovation as a core part of the market characteristics in which we operate, it really elevates, from the standpoint of overall impact on the company, our ability to have a certain amount of our organic growth within our own control through the amount of innovation that we drive.

Our next question is from Andrew Kaplowitz.

Scott, I'm really impressed with the Food Equipment growth in the quarter, especially compared to last quarter. John mentioned some of the reasons, new product launches and new customer signings. But we know that you're also focused more on fast food and casual dining. Have you seen any fruits of that? And then is it really the European business that turned in the quarter sequentially or Asia? I mean, what resulted in the strong performance?

Well, I think a little bit of all of the above. The European business, even the equipment sales, being positive year-on-year in Q3, was a nice step forward. And again some of that was driven back to the prior question on some new product launches in the warewash business in Europe. And what I would say overall in terms of Food Equipment, in terms of the sort of transition, that we've been on a fairly heavy focus around margin improvement in that business for the last 2 years. And I think largely, what this represents are some encouraging signs around our belief that now shift a much more focused business more front and center on a growth agenda. And one quarter in, it's important that obviously, we sustain it going forward from here, but I think it was -- we're very pleased to see growth in both the equipment and the service business in the quarter.

Okay, Scott. And if I could ask you about your 4Q '13 guide. Seasonally, usually in 4Q, you get a drop-off in margins, so I guess I'm not perturbed by what I see. But it's a pretty significant drop off at the midpoint of the revenue range, if I'm doing this right. Is there anything in there, like restructuring seems about the same between 3Q and 4Q. Is it just conservatism, given choppy end-markets? Am I missing something as I look at 4Q versus 3Q margins?

Yes, and I'd say there's really nothing unusual in here. I think if you go back and look over time, we typically see a 2% to 3% decline in revenues from the third quarter to the fourth quarter, driven by the seasonality in some of our businesses. And so if you take the flow-through on that, that really accounts for the majority of the margin decline here sequentially. I think year-over-year, in terms of margins, we're still going to put up some pretty good numbers, in part given some favorable comparisons. But this is really nothing unusual, kind of typical seasonality from the third to the fourth quarter.

Our next question is from Ann Duignan. Ann P. Duignan - JP Morgan Chase & Co, Research Division: Can we talk a little bit about the North America construction businesses, the residential, renovation and commercial. You gave good color on Food Equipment about what was kind of market growth versus what ITW specifically did to outgrow the end-markets. Could you talk a little bit about that construction businesses in the same vein?

Yes. What I would say about construction in North America is I think it was, probably, the bulk of the contribution was from overall market lift. As I've said earlier, it's an area that we are very focused around structural cost and margin improvement, so we certainly got innovation agenda there, but it's not one that is front and center at the moment. Ann P. Duignan - JP Morgan Chase & Co, Research Division: Okay, but -- good to know. And then on the price cost side, can you talk a little bit about that? How much is price? How much is cost? Is it the cost of steel has gone down? Or what businesses were impacted, just if you could expand on the price/cost comment, I'd appreciate it.

Yes, I mean, we had some material deflation in the quarter in line with a little bit better than prior quarter. And then as the majority of the 30 basis points really came from the price line. And part of that is targeted price increases as a result of some of the PLS work done in some of our segments. Ann P. Duignan - JP Morgan Chase & Co, Research Division: And any segment in particular benefiting or not benefiting?

Really across the board, I'd say if you look at maybe Polymers & Fluids, strong performance there.

The next question is from David Raso.

I just wonder if you can help us set the parameters for the analyst meeting coming up in December, what we should expect.

Well, you can expect us to give you an update on our enterprise strategies. I mean, that's first and foremost. That will be agenda #1 for us. Then we're also going to be looking at what underlying growth rates are going to be probably for 2014.

I think the overall focus is going to be we're going to provide some sort of drilled-down examples of this enterprise strategy in action, so to speak, in a number of our different businesses.

And it seems like you mentioned you're maybe a bit ahead of plan thinking about maybe even next year on the benefits. I mean, should we expect a resetting of some of those goals or just simply an update on the progress maintaining those goals. I'm just trying to think through...

Yes, I think I wouldn't expect any resetting of goals. We said from the beginning that this was a 5-year plan, not a 5-month plan, and we are still on track relative to the 5-year plan. And a lot of the sort of pacing is ultimately going to come much more from the economy than in the kind of tailwind or headwind we get as we move through this 5-year period than any opportunity to accelerate. I think one of the things we've talked in a few of these calls in different forms is that managing the pace of execution is a really important imperative for us. And we've got to make sure that as we are implementing a lot of these changes that certainly are positive in terms of the overall performance of the company, that we are still allowing our businesses the ability to digest those changes at a rate where they can still serve their customers and perform as businesses on a quarter-to-quarter and month-to-month basis. So I wouldn't look for any resetting of goals.

And then thinking about the end-market comment, give us some color on '14, just trying to gauge your confidence in Europe getting better. When I think Europe for you, I think Food Equipment and Construction are 2 of your bigger businesses. And Food does seem to be improving while Construction is still kind of down 4% in Europe. Can you just give us maybe a little more color on Europe, how you're thinking of setting up your framework for '14 on what you know at the moment on Europe?

Yes, I think you've got it. I think Automotive is the third major business for us over there. I think that's -- looks like certainly more of the same. Food Equipment, as I said before, we're encouraged and would feel even better if we see another nice quarter in Q4 heading into '14. And then on the Construction side, I think the market remains weak. And we also have an agenda there that's really focused, as I said before, around sort of structural cost improvement and getting the margins up to a level that are accretive to the overall company's goals. And so regardless of the market environment, we're going to make a lot of progress in Europe next year.

Our next question is from Mig Dobre. Mircea Dobre - Robert W. Baird & Co. Incorporated, Research Division: Sticking with Food Equipment, looking at the margin there, I think this might be the best third quarter performance that you guys have had in the last decade or so. And I -- from what I understand, there's been a lot that's been done on the cost side in this segment. Is this basically how we need to be thinking about incremental margins in this segment going forward, looking at the third quarter performance? Can we extrapolate this basically?

Yes, I think directionally, I think there is -- what you have to keep in mind is there are some business structure simplification and sourcing benefits that are contributing, that if your time horizon is further down the path, these incremental margins are not sustainable once we've sort of developed or sort of generated the full value of the benefits from those initiatives. But on a core margin basis, we've, for a long time, targeted 35% to 38-plus percent incremental margins depending on the business. And I think that's a very -- that will be a target that will stay in place. Mircea Dobre - Robert W. Baird & Co. Incorporated, Research Division: Great. And then maybe a little more color on China. And obviously, a lot of positive commentary here, but I'm trying to, if you would parse out, what sort of ITW-specific, given your presence in the country and product introductions so on and so forth versus actual, if you would, improvement in demand in China. Can you kind of parse that out for us?

Yes, I think -- a bit of this story is certainly some sequential overall improvement, but a big part of the overall results are largely driven by Automotive. And Welding's sort of a negative against the overall market pickup there. But in general, we saw modestly better results across the board with the exception of Welding. But in terms of the number -- the business really driving the overall percentage growth, that was largely Automotive.

Our next question is from Nigel Coe.

So just -- I wanted to drill into the share repurchase and your earlier comments that significant scope to raise the leverage ratios. So I'm just wondering, maybe you could just think about how you're thinking about financing the repurchase. And maybe how contingent is the cadence of the repurchase on the actual sale proceeds from Industrial Packaging?

Well, I mean, obviously, the proceeds from the sale of the packaging business are largely going to be used to repurchase a portion of the 50 million shares that we've been talking about. So I think in terms of the financing kind of similar to the previous question, I mean, we're working through the specifics as we look into the fourth quarter and 2014, in terms of what we're comfortable with, in terms of the pace of the repurchasing of the shares here. And like I've said, I mean, we -- as we continue to perform well with -- on margins and free cash flow, as we look to increase our leverage here in the first half of '14. And then the third portion here is obviously the after-tax sales proceeds from the IPG divestiture. So all those things combined, as we look at kind of the timing and some different scenarios around the timing, are going to drive our repurchases here. What we said today was for the fourth quarter, we expect to repurchase more than we did in the third quarter. So we did 5.2 million shares in the third, and we plan to do more than that in the fourth quarter and we'll kind of pace it as we continue to perform well with free cash flow and we get better visibility to the timing around the sale, which we should add that we're very pleased with the progress so far. We're seeing a high level of interest and obviously market conditions for the financing for a potential purchase remain very favorable. And so all those things combined, we'll look at that and kind of lay out our plan. And we'll update you as we go through the year.

That's really helpful. But just quickly, would you be open to the idea of maybe pre-funding some additional share repurchases with short-term debt . So raising the short-term leverage a little bit higher than, perhaps, the run rate and then taking down short-term debt with the proceeds?

I'd say right now, we're looking at all the options as we get ourselves ready and finalize the plans for 2014. When the process of rolling up the annual plan from our segments, and that will certainly give us a view of the operating performance. And an outcome of that is our -- the details around our capital allocation strategy for 2014. The big parameters will remain the same in terms of organic investments and the buyback, looking at acquisitions to a lesser extent. And so we'll continue to look at all the parameters and button that up as we wrap up the plan here for '14.

Okay. And then finally, Michael, you're obviously new to the team. You come at ITW with a fresh pair of eyes. Maybe just let us -- give us some color in terms what you see, where are the strengths and weaknesses of the organization? And I guess specifically, where do you think you can make the biggest impact?

Let's start with the positive.

So while I am CEO accepted, right? Well, then let me just say, Nigel, I'm excited to be here. I mean, ITW is an American icon. It's been around for over 100 years. A long history of strong performance operationally and financially. I'd say really a unique differentiated business model, a great set of businesses. And I really look forward to working with the management team here and on executing the strategy. If I didn't think the strategy was right, I wouldn't be here, okay? And so I really think that as we continue to execute well and there's some, I'd say, some early indications that we're making good progress, we'll continue to generate a lot of cash. And I look forward to working on the capital allocation. And again, the focus here is on creating long-term shareholder value. So it's a little early, but very pleased to be a part of this.

Our next question is from Eli Lustgarten.

Very nice quarter. Can we just go back to Welding, and I guess a little more color what's going on. I mean, is Equipment still the dominant piece of that business? And if it is, it says that there's a big drop in consumables side. So can you give us how much the Asia Pacific, you said it was shipbuilding was more consumable. How much of that is the total? Is that -- and what would consumables look like x the big drop in China from -- moving away from shipyard?

The first question, the U.S. is the easier of the series. But from a standpoint of equipment, as a percentage of the overall portfolio, we still remain about 60% equipment and 25% consumables and about 15% a variety of other accessories in Welding. From the standpoint of the overall consumable impact in China versus the rest of the world, I can't really give you that, but we can find that out and get back to you.

The thing I would add is if you look at the North American numbers, Eli, I mean, North America basically down 1 with positive growth on the equipment side. So that tells you that clearly, there was a bigger falloff on the consumables side. We like the fact that the equipment side of the business has -- is still generating positive numbers, which is more of a sort of more of a CapEx story. So I think to the extent that Equipment has stayed up at higher levels for us is a good indicator longer term for the business. I mean, shorter term, consumables have been hit, which I think gets into the whole issue of what discretionary spending is -- what it's looking like in that particular category. But I think we like the long-term effect that or long-term implications for capital equipment in the business, which is the core of the business for us.

And I was just going to add, just go back to the point John made earlier that despite a pretty tough market, we still got improved operating margins 90 basis points in the segment on down revenue.

I mean, the operating margins were fabulous, probably the best way to describe it. And I had one question. It looks like appliances are very -- are not a big part of the business at ITW at this point. Is that a market that you're targeting for future penetration or so? I mean, is...

No, no. It's a business that in terms of the particular niches that we're in, we're very happy with the overall margin and return metrics in the business, but it's not a position that we expect to build out much bigger than it is today.

Our next question is from John Inch.

So just to pick up on the North American Welding consumable aspect. I think you're, perhaps, maybe losing share and maybe even by design to either Colfax, Sea Sub [ph] or Lincoln or could this be a channel-related issue? I'm just curious why all of a sudden, consumables would drop if you're getting little bit of uplift in some other areas.

Well, I think there was a question along these lines after the second quarter, and I think you have to let everybody else come in and see. I think our -- there's been no shift in strategy for us. Our overall approach to Welding is really around where can we add value, where can we innovate, where can we do something unique and special for our customers. And ultimately as we've talked at length, there are large percentages of the consumable business that are -- where that's very difficult to do. And that's sort of by design our overall Welding portfolio, being much more concentrated in equipment, is how we get there but that's not a new strategy in the last quarter. That's been the strategy for the entire 20-plus years we've been in the business. So you can -- whether we're losing share or not in the third quarter, you can wait and see what other competitors report and make your own assessment at that point.

John, it certainly wasn't the case in Q2. We came out first with our number and the question came up and competition was significantly more negative than us.

No. But then I'm just wondering. I mean, obviously, you make more margin on Equipment, right? So as you go through this process of driving margins higher, your Welding margins are fantastic, as Eli suggested. So I don't know, maybe there was something about what you're doing deliberately, for example, you're walking away from some business or maybe you shuttered a plant or something that has an impact temporarily, but gives you a better margin uplift down the road. That's all I was trying to understand.

Nothing strategic. What I would say is that in our view is it's market.

Okay, it's market. Then, Scott, what about the playbook for electronics equipment? I mean, I understand -- I mean, first, I guess it's what, $400 million. I understand it's not going to be a big driver either way, but if you sort of think about what other industrial companies have been doing, right, Dover got out of their electronic assembly and test businesses. Emerson, unfortunately, got out of their power business at the bottom. But this business to your point, it does make pretty good margins even though it got hit on the top line. Maybe I'm trying to understand. I understand why you, perhaps, want to keep it. What's the playbook, though? Like you were sort of saying, "Well, let's diversify the customer base and maybe do some other things." But is this on sort of a 6-month time line to kind of make it a little less volatile? Or is it -- are you going to give it a lot more flexibility than that?

Well, I wouldn't put it on a 6-month time line. I think the overall playbook, what I would point to, is, first of all, the underlying profitability. We make a lot of money in this business and I'm not going to compare what we do versus what other companies might have done because the businesses themselves are different. But ultimately, the overall margin and return profile says that this is a pretty good business. Now we've got to find some ways to manage this volatility issue much more effectively than we have. There's no question about that, and I think it's -- there's certainly some things we can do around that. It's not something that we're interested in seeing get huge inside the company, but it's a good position, where again from a standpoint of the overall return and cash flow metrics, it's a pretty solid business. So I think -- I don't think it's on -- I wouldn't want to imply at all they've some sort of 6-month do-or-die kind of program here. But ultimately, we're very clear and the management team running that business is very clear that we're going to find a way to manage this business in a much less volatile fashion going forward. And I'm pretty confident today that we're going to be able to do that.

Okay. So let me ask it in a different way. How soon do you think you can get to a point -- you clearly have initiatives to diversify customers, maybe launch new products, stuff like that. How soon do you think you can get to a point where you're at least satisfied that this looks a lot more like an ITW-like business, far less volatile, and as you point out, very strong profit characteristics?

Well, I think the comp issue is largely gone, we're going to feel just a piece of it in the fourth quarter, but nothing near what we saw in the second and third. So this was largely a one customer issue that was just some very large orders in 2012 that ultimately I don't expect to recur, I'll put it that way.

Our next question is from Deane Dray.

You can tell that there's been some fundamental changes at ITW if we got this deep into the Q&A and no questions about M&A. And Scott, I know this reflects the whole change in strategy to pivot from 2/3 growth from M&A to 2/3 from organic. So I know you'll be able to comment on this at the December meeting, but for today, could you give us some insight into what you're seeing in the organization changes in terms of freeing up all that capacity that used to do 30 to 50 deals per year, how that -- those resources are reallocated, how you're ramping up more focus on customer-backed R&D and so forth and how might that be reflected today and in the next couple of quarters?

Yes, I think the -- what I would say to that, Deane, is that I think we're very clear across the extended management team about what our growth priorities are and what our growth focus is going to be on a go-forward basis. What I want to be careful about though is sort of managing expectations around accelerating organic growth while we've got things like business structure simplification happening in a pretty major way. So from the standpoint of what I talked about earlier in terms of managing the pace of execution, the focus right now is really getting through the large part of BSS. Again, everybody is clear on a go-forward basis that we are going to be much more organic-centric in our growth focus. There are certainly businesses in food -- we talked about several of them in Food Equipment and Auto OEM that are further down the path in that regard. So it's certainly having an impact in terms of strategy and focus, but we're also not yet in a place where we're really stepping on the gas pedal hard because we're also working on these other initiatives that I talked about. So what I expect to see is a sort of prolonged acceleration over the next couple of years in our organic growth rate, not some immediate impact from this flipping the switch, if that makes sense.

Sure, it does. And might we see spending on the R&D line, customer-backed R&D line begin to inch up? And would you ever separate that from the SG&A side?

I think it's largely, from an R&D spending as a percent of revenue, I -- this issue for us is much more about the portfolio than it has been about any lack of investment in R&D and innovation. We have a patent portfolio of over 12,000 patents. We have had businesses like Welding and Auto OEM that have been investing heavily in customer-centric R&D for a long time. We've also had, prior to this portfolio move, about 25% of our portfolio were because of the sort of commoditizing characteristics of those businesses, the R&D spend has not been all that high. So from a standpoint of accelerated organic growth, the shift in portfolio focus is going to have a much bigger impact, in my view, than any need to sort of accelerate our spending or investment. We've never restricted our investment in R&D, but we've been very thoughtful about investing and only in places where it can really generate significant benefit. I'm sorry, Deane.

Yes, just last question for me is on the M&A outlook. You've got 2 deals that completed that European Consumer Packaging business, the China Food Equipment. Are there -- what's that pipeline look like today? Is it just not actively cultivating? Or is there something that you might be announcing?

Well, there's nothing that we're going to be announcing that's imminent that I'm aware of. I think the overall sort of strategy from an M&A standpoint is we're going to invest in businesses where we can use M&A to accelerate our organic growth rate. And I think the 2 that we did in the second quarter are good examples of that, where we're taking -- we're really positioning a couple of businesses that have some very strong organic prospects to expand those -- their ability to execute on those geographically. So it's certainly part of the conversation but much more down in the overall strategy at the segment level. And that strategy conversation starts with what's the organic growth focus and then, perhaps, how might we supplement that or accelerate that through some very targeted M&A.

Our last question is from Steven Fisher.

Similar question to Deane's, but on the growth rates. Given that your portfolio has now mostly been restructured, what's going to be the biggest thing to get you from lagging Industrial Production today to beating it over the next few years?

Well, I'll go back to what I talked about before. We -- the portfolio today on a go-forward basis is characterized by a number of businesses that have outgrown Industrial production for a long time. So if you look at Welding as an example, it's been a high single-digit organic grower for the 25-plus years we've been in the business through the cycle. Auto OEM business we've talked about, that's clearly a 400-, 500-basis-point above market grower. Test & Measurement has been another one that, at least, in the relatively short time we've owned it, has been a high single-digit organic grower. So there's already a number of businesses inside the portfolio that have absolutely demonstrated the capability to grow organically well in excess of the underlying growth rates in their markets. Keep in mind that we've been averaging that kind of organic growth in with about 1/4 of the portfolio for the last 5 or 10 years that have been basically given a 0 growth because of the commoditizing spaces and the negative year-on-year price pressure that you get in those kinds of spaces. So there's an element of just shifting the portfolio that gets us much growth here fundamentally organically. And then what I said before, I think the point that Deane was trying to make is we are absolutely shifting the overall growth focus from acquisitive to organic. And that's going to -- there's no question in my mind that that's going to help further accelerate the overall organic growth performance of the company.

Okay. And then just quickly, you've talked in previous quarters about Brazil. I'm not sure if I missed it. Did you give what the growth rate there was in the quarter and what's the underlying trend?

Yes, growth rate for Brazil was up over 2%, total company.

Okay. Well, thanks, everybody. We appreciate you joining us for the Q3 call, and we look forward to talking to everybody again. Have a good day.

Thank you for participating in today's conference. All lines may disconnect at this time.