Welcome to the Q4 2015 Parker Hannifin earnings conference call. My name is Mark and I will be your operator for today. [Operator Instructions]. I would now like to turn the conference over to Jon Marten, Executive Vice President and CFO. Please proceed, sir.

Thank you, Mark, good morning and welcome to Parker Hannifin's fourth-quarter 2015 earnings release teleconference. Joining me today is Chief Executive Officer, Tom Williams and President and Chief Operating Officer, Lee Banks. Today's presentation slides together with the audio webcast replay will be accessible on our company's Investor Information website at www.phstock.com for one year following today's call. On slide number 2 you will find the company's Safe Harbor disclosure statement addressing forward-looking statements as well as non-GAAP financial measures. Reconciliations or any reference to non-GAAP financial measures are included in this morning's press release and are posted on Parker's website at www.phstock.com. Continuing on to slide number 3, I just want to point out the agenda for today's call. To begin our CEO, Tom Williams, will provide highlights for the fourth quarter and full-year 2015. And then following Tom's comments I will provide a review of the company's fourth-quarter and full-year 2015 performance together with the guidance for 2016. And Tom will provide a few summary comments and then we will open the call for a Q&A session. At this time I will turn it over to Tom and ask that you refer to slides number 4 and then 5.

Thank you, Jon and welcome to everybody on the call. We appreciate your participation today. I'm going to take a few minutes to share our thoughts on the fourth quarter and our full-year results. I will also touch briefly on some of our end market conditions and provide an update on the upcoming rollout of the refreshed Win Strategy. This includes a focus on our new simplification initiatives, some of which you have already -- are already being implemented. I'd like to start with a few comments on our fourth quarter. We're operating in a tough environment as we continue to feel the effects of the strengthening dollar and ongoing weak conditions in some key end markets. Throughout the quarter we continue with actions to adjust to these conditions, including the completion of a voluntary retirement program in the United States and a broad range of other actions to reduce costs globally such as reductions in force, reduced work schedules and tight control of discretionary spending. Sales declined 11% in the fourth quarter as the effects of changes in currency rates negatively impacted us by 6% and organic sales declined 5%. Order rates were 9% lower than fourth quarter compared with the same quarter last year. This follows a 4% decline in the third quarter. We're working hard to align costs with such a swift change in order rates. All things considered I am pleased we delivered total adjusted segment operating margins of 14.9%. This compares to 15.0% adjusted in last year's fourth quarter. Folding adjusted segment operating margins flat while sales declined 11% is a nice accomplishment. Earnings per share were $1.27 or $1.43 adjusted for business realignment and the voluntary retirement program. Earnings were impacted by a higher effective tax rate through largely the changes in the geographic…

Thanks, Tom. And at this time transitioning to slide number 6, I will address the earnings per share for the quarter. Adjusted earnings per share for Q4 was $1.43 versus $2.06 for the same quarter a year ago. This equates to a decrease of $0.63. This excludes restructuring and voluntary retirement expenses of $0.16 and compares to -- which compares to $0.08 for the same quarter last year. Please also note that in Q4 we made numerous tax adjustments that amounted to $0.30 per share due to the mix of pretax profits noted in the quarter and a few discrete items that were incurred. Adjusted earnings per share for the full year 2015 were $7.25 versus $6.94 for the full year of 2014. Total realignment expenses were $0.28 for the full year 2015 and that compares to adjustments for restructuring, asset write-downs and the joint venture that was formed which in total net to $0.07 of expense for the full year in 2014. Also included in FY '15 earnings is the 38% -- $0.38 per share in transactional currency gains that are not expected to repeat in FY '16, as Tom alluded to earlier. On slide 7 we discussed the influences on adjusted earnings for Q4 versus Q4 of last year. And you will find the significant components of the walk from the adjusted earnings of $2.06 to $1.43 for Q4 of FY '15. The impact of fewer shares outstanding equated to an increase of $0.10 per share. Reductions to adjusted per share income include, one, lower adjusted segment operating income of $0.30 per share driven by the strengthened U.S. dollar and weakened end markets demand; the impact of the increased effective tax rate which was $0.30 per share as a result of the shift in the geographic mix of…

Thanks, Jon. We do have some challenges ahead, but the good news about FY '16 is that with every quarter we move closer to the bottom of the decline in the natural resource markets that we serve. As we've demonstrated, we performed well in tough times. The bright spot is that we enter our new fiscal year leaner than ever and we're taking additional concrete actions to further lower our cost structure. We're also encouraged by our new product and systems commercialization progress. As a result we expect to perform well as sales start to increase. Importantly, Parker has a fantastic foundation and legacy to build upon. Our culture is strong, with tremendous support by our global team members who I know will do everything they can to achieve the goals we have set for them. I want to thank them for embracing the changes that we're implementing at Parker. I'm confident we have a bright future ahead of us and I look forward to sharing with all of you our progress throughout the year. And with that I will turn it over to Mark to initiate the question-and-answer portion of the call.

[Operator Instructions]. Your first question comes from the line of Jamie Cook from Credit Suisse. Please proceed.

I guess just a couple quick questions. One, on the restructuring and simplification initiatives I think you said that you expect a $70 million pay off. Can you -- I guess more broadly can you talk about which segments the restructuring and simplification is aimed at? As we think about the $70 million savings when do we begin to realize that I guess would be my first question? So just a little more color on that. And then my second question relates to just the guidance. I think you said by the back half of 2016 you expect sales to increase. Just a little more color on that. And what gives you confidence that you start to see improvement in the back half of the year? Is it just easy comps? Is it assumption the markets get better? So any color on that. Thanks.

Okay, Jamie, I will start. This is Tom. So there is two questions you've got. I'll start with the whole restructuring simplification piece. Jon will have a few more details on that, than I will follow up with your question about the guidance. Okay, so, we're introducing this new concept of simplification which really isn't entirely new to the company. But let me give a little color on this as far as what we're trying to do here. So the focus is to reduce complexity, increase speed, reduce our cost and improve service to our customers which ultimately is going to help enable growth. So the key areas we're going to focus on is first, if you look at our revenue profile, particularly look at any typical division, you look at the last several percent of revenue, it typically carries a disproportionate amount of costs, part numbers, quote activity, so we're going to look at that revenue profile. We're also looking at organization and process simplification to optimize to that revenue profile, but also basic things like looking at number of layers, span of controls, other kinds of things around organizational structure. We're taking a fresh look at our division structure. Now we're complete believers in the divisional structure, that P&L focus we love, we're going to continue to be a decentralized company. However, we have -- as a starting point we have 115 operating divisions around the world. When we look at those divisions we see about 20% of them that have overlaps in product charter or product technologies that would benefit from combining them and getting more scale and synergies on both growth and on cost. So we're going to look at that 20%, we will probably take about 10% of our total operating divisions and reduce that as a result of that overlap and the last area will be around bureaucracy. Just reports, activities, our planning process, you name it, we're going to look at trying to just simplify how we do things. So I will let Jon make a few comments about how it is going to be spread through the year. So that is the simplification part. The traditional restructuring will be reduction in forces, plant consolidations, all market adjustments that we're making so they are really additive. The simplification thing is around all the things I said plus the traditional restructuring. So, Jon, you can comment on the -- how it times out.

I think, Jamie, just in the big picture, 60% of the cost should be incurred in the first half. And we should get about 20% of the savings in the first half and then we will get to the remainder of the savings in the second half. And of course the 40% of the cost incurred in the second half. So that is the way we have kind of got it timed in our guidance. We have got very detailed plans and we're going to leave it at that for now.

And, Jamie, so I will go back to your second question which was -- and which I am sure is probably a question everybody has, how did we come up with the guidance. So from a process standpoint we always -- this is a bottoms up process from our divisions. We also build economic models to try to model how the forecast might be. And they happen to converge on about the same number which is the guidance that we've given you. But the color behind it, for the first half of the year we're continuing to see challenges in that natural resource-related market. So oil and gas, Ag, mining and construction, we expect distribution to continue destocking, particularly for those distributors that have exposure to oil and gas for the first six months. And when we look at the year and we see Ag and mining starting to bottom at the end of this calendar year, so at the end of our Q2. And in our forecast this is for oil and gas and construction equipment to bottom at the end of our fiscal year. So we're not really expecting any help from construction and oil and gas. However, the fact that they are not going down as rapidly and they are seeking bottom towards the end of our year it provides less headwind for us. So the natural resources markets are going to either be at bottom or close to bottom. And then the other positive markets that have been what we have seen positive growth throughout this year will continue into next year. And that will provide the growth in the second half. We have easier comps, we will be at bottom or nearing bottom in those tougher markets and the positive markets will be power gen, heavy-duty truck, rail, SEMICON, life science, general industrial, automotive, telecom, air-conditioning and aero. And we see a small moderate growth for distribution. So that is kind of the makeup of the year and how we came up with a minus 1.5 for the total year.

Your next question comes from Timothy Thein from Citi Research. Please proceed.

Tom just following up on your last comment there, was -- just so I am clear. So you are expecting within industrial globally the OE versus distribution split. Some growth is forecasted for distribution is I guess part one? And then just second, can you provide more detail in terms of the quarter just completed? What you saw in terms of the -- within that order decline, how that mix played out, i.e. distribution versus OE?

Yes, I will start and I'm going to let Lee cover the market for the last quarter. But yes, our assumption is that there will be a small moderate growth, low single digits, for distribution in our forecast period. But I will let Lee give you color on the current quarter, what we saw, what we're currently seeing.

Timothy, this is Lee. I think what I will do if it is okay with you, I'm going to comment on the industrial markets and maybe just walk you through the different regions. And I will touch on distribution and OE and different markets throughout those regions. And try not to be redundant here, I think there is just three big headwind themes. One is the translational effect currency is having. That is the biggest impact to the top line, no doubt. We have mentioned a couple of times natural resource driven markets. And then lastly, I think there is this -- the third drag would be the continued regional/country weakness in Europe, China and Brazil. So with that as a backdrop, I will just touch on North America. I will start with distribution. If we look at FY '15, distribution did grow organically, but there was absolutely a noticeable slowdown in Q3 and a contraction in Q4 sequentially and year over year. The slowdown was largely attributed to those distributors with significant oil and gas exposure. And as Tom mentioned earlier, we expect another six months of destocking in that channel before it has worked itself out. On the positive side, we continue to see real positive momentum with our distribution base that is exposed to automotive Tier 1s and machine builders. They all experienced growth and continued to throughout the quarter. Talking about oil and gas, continued contraction across all upstream sectors. Offshore activity sequentially got worse since our last call. Land-based activities sequentially worse, but only mildly so. It didn't -- not at the rate that it was in Q3. On a positive note, we continue to gain market position by helping our customers decrease costs in that sector, really using our system applications. And we have…

Your next question comes from Nathan Jones from Stifel. Please proceed.

If I could just get back to the margin guidance for 2016, can you talk about your total Parker margin guidance is up about 50 basis points despite lower revenue. I am sure you get some benefit from the new simplification project that you are embarking on. Can you talk about where the underlying margin improvement is coming from, be it restructuring or new products, etc.?

Nathan, it is really coming from a couple of different areas. First of all of course we have been restructuring this year, we did the early retirement program in Q4. We had a significant restructuring that we did in FY '14. We're glad that we did that, that is going to continue to drive important savings for us in FY '16. And the simplification program that we're initiating for FY '16 is going to help us drive margins. And so, we're very focused on driving our margins up and as we added it all up we were able to come on an adjusted basis with 50 basis points higher margins in FY '16 on as reported lower sales. So it is going to be that reduction in our fixed cost infrastructure driving higher margins, as well as it is going to be our ability to just further drive our new businesses and new products into increased margins in ways that we have not seen before. And so, when you pull that altogether that gives us this advantage. We're also seeing, as I know you know, 100 basis points higher margins in Aerospace which is also helping drive the total company's margins up too by -- for next year and is an important part of that. And a big part of that increased Aerospace margins is coming as a result of the reduction in some of our development expenses as well as the expansion that we're experiencing in the OEM, super cycle commercial shipments.

And then my follow-up question is on pricing. You have seen 4% order declines in the third quarter, 9% order declines in the fourth quarter. Can you talk about what impact that is having on pricing in the market and how competitors are behaving, what the competitive environment is like at the moment?

I mean certainly it is a tough pricing environment. I mean we're pleased but we track this very closely with our SPI index and we're still positive year to date, we were positive in the quarter. One of the things that we try to do is really address our customers' cost issue. And we do that through bundling technologies and helping them take cost out of their system. So we try to get away from price per se. But bottom line is still positive, it is a tough environment, though I don't want to describe it any other way.

Are you expecting price to be neutral to positive going forward?

We're expecting it basically to be flat in our guidance.

Your next question comes from Ann Duignan from JPMorgan. Please proceed.

Can you give us some more color on your Aerospace orders? I don't know if I missed it, but I know you said tough comps, but I think you also said that commercial aftermarket was down. You are not the first company to note that and I am just curious what is going on in commercial aftermarket or if I missed [indiscernible].

Not sure. Well, I think that in our commercial aftermarket we're actually up slightly there in our orders. So it is not a big move up, but we're up slightly there. From an order standpoint the major driver for us is military. And so these orders, Ann, that are really driving our numbers, as you know, for the military and can be very lumpy and that was the comparable number that I was talking about. And that is what is really driving the numbers. We're also seeing some move in our commercial OEM business down slightly. But again, that is from a very high ordering pattern this time last year and really throughout the beginning of the cycle which is now starting to level off to more numbers that are more representative of how we see ourselves going forward which is indicated in our guidance. Does that help, Ann?

Yes it does actually. Thank you, it helps a lot. I've got a lot of questions on that since you released. Can you talk about your confidence in your outlook for the start of a recovery and distribution in the back half. There isn't much visibility there, I mean where could you be wrong?

Ann, this is Tom. I mean, as you know, any forecast is usually wrong the day after we send it out. But I think we have some fair assumptions. We have done this through visibility to customer demand, distribution inventory, our own economic modeling and then our bottoms up from our divisions was all basically coalesced along the same thing. So the key assumptions will be that we're assuming bottoming of some of those end markets that were giving us the most trouble. So mining in the second quarter and Ag in the second quarter and then oil and gas and construction in Q4. So if those were to slip at all that would be a potential risk. But that is our best assumption right now. And of course every quarter we're going to give you a new look at that and what we think. So we think that is fair based on all the intelligence that we have been able to gather to date.

And then other than your oil and gas outlook, are you assuming an increase in rig count from here or just kind of stay at this level and we bump along?

Yes, we're assuming flat and basically if oil and gas gets to flat that becomes a positive for us because it has been such a drag the last two quarters.

Your next question comes from Jeff Hammond from KeyBanc. Please proceed.

If we could just zero in on oil and gas, I think you have talked about that as being a $1 billion business. Can you just talk about how you think about that for the full year magnitude of decline and how that kind of plays into the margin mix?

Well, Jeff, this is Lee. I mean it is -- we have talked about it being a big headwind in terms of margin mix, there is no doubt about that. I mean if you look at the oil and gas, I mean we have got OEM customers that are off 50%. So they are going -- 50% with us, they are going through a big destocking process with us. So I think once we work our way through that, work through the inventory that is in the channel it will be a little more line pole in terms of demand, I think that will be a positive for us. But we're not forecasting other than line pole a big rebound in that market.

Okay and then can you quantify what distribution was down in North America in the quarter and how much you think of that as just temporary destock versus the underlying short-term demand trend?

Yes, in the quarter about 4% would be our best guess. And I think a lot of that has to do with, again, just destocking some of these end markets.

Your next question comes from Eli Lustgarten from Longbow. Please proceed.

One of clarification. Your guidance has share count of 140.8, I guess you spent sort of on the $1.4 billion so far. Is the assumption that you are not going to buy back stock more than creep for the rest of the year? Or you just haven't put it in there and that is something we should take out [indiscernible] 600 million plus.

Eli, it is Tom, yes, we did not put it into our forecast. But you can rest assured that we're still committed to the $2 billion to $3 billion of share repurchase over the timeframe that we communicated. And I would look for us to -- you will see us buy opportunistically and I would look for you to see us doing that going forward here.

So, will go down if you do execute?

Right.

Now can we talk a little bit about your assumption for Rest of World profitability? You have got the margins going up anywhere from 50 to 100 basis points and what is likely to be relatively stagnant kind of volume or so. Is that a beneficiary of this program that you have announced this year? And is that where -- one of the points we're trying to find out is the $70 million benefit you are getting, where would we see that? Most of it is going to be International or is it split between International and Rest of World and North America?

Yes, Eli, Jon here. Overall the benefits of the program we're going to see worldwide. This is a business process simplification and it is going to have an impact on our margins worldwide. So I think we will see equal implications for North America as we will for our Industrial International businesses there.

And is that the source of the improved margins in Rest of World or is there something else happening?

It is one of the key factors for our improved margins. But we're continuing to look as our market starts to stabilize to be able to generate a margin in Europe much higher than we have been experiencing here in FY '15 and so we've been, as you know, determined to do that for the last couple years. And we start to see improvement in our European margins as all of the simplification and all of the prior restructuring take hold in our cost structure there. And so, we will see it in Europe, we will also see improvements in our Asian businesses too. But I don't want to give you that that is 100% of the driven increases in our margins. This also has a lot to do with our Win Strategy, our ability to do pricing right, to do buying right, to recover from some of the translational and transactional impacts of currency headwinds that we're feeling in some of the countries in Europe. And so, there is a whole host of activities that we're working on very [Technical Difficulty] here to help drive our margins.

Your next question comes from Andy Casey from Wells Fargo Securities. Please proceed.

A couple questions, the first one is kind of asking something that has been asked a couple times before at least a different way. Can you help us understand what sort of benefit from internal restructuring realignment and early retirement initiatives are included in the $0.19 operating profit increased shown on slide 16?

Okay, let me just make sure that I am tracking there with you. Yes, well, listen, in that $0.19 it has got all of the impact of the simplification. Keep in mind that our revenues are going down. So we're showing increased operating earnings on lower as reported earnings. And part of the driving force for us to be able to increase our earnings in a lower sales environment which I realize is at first glance completely counterintuitive, is our ability to do the simplification program the way that we have outlined it, as well as reap the benefits from the prior restructuring that we have done, the early retirement that we have done here in that fourth quarter of this year. And that is the source of the $0.19. And again, just to remind you, I know you know this very well Andy, but this is a compilation of all of the programs from a bottoms up perspective in the company. And this is not just one program, we're making it sound like it is one program and it is externally. But inside this is many, many, many programs at the divisional in group level within the company and this is how it gets rolled up here in the company when we actually ended up doing our guidance. And that is a big basis for the $0.19 that we're showing on that slide. So, I don't want to give you the impression that this is just a big tops down look at the forecast for FY '16. This is something that has come up from the divisions like we normally do. And this is the result of that process as we start to review it and make adjustments to our operating cadence around the world.

If you ex out the initiatives that have yet to be done, some of the initiatives you announced today.

Yes.

What sort of benefit is just carryover from what has already been done?

Well, we have got a $50 million carryover from the effort that we had put together here in FY '15. And that's really the benefit that we're going to see next year and that will be bleeding right into the cost structure in FY '16. So that is one number that we're very firm about, we feel we have a lot of confidence in and that is the number that is rolled up into the forecast that we're getting from the team.

And then in the first half/second half outlook I just want to make sure if there is any items on top of the revenue outlook by market that you kind of gave. Does the first half outlook include any inventory reduction actions, either on the corporate level or in your distribution channel, that when you look into the second half to expect that to normalize?

As I mentioned earlier, for the first six months we're assuming some destocking in our distribution channel. So that is part of the headwind we will have in the first half of the year from a revenue standpoint.

And then one last one if I could fit it in on the Aerospace back to I think it was Ann's question. Some other participants have described some distribution channel choppiness. Are you seeing any of that at this point? It doesn't sound like your order intake is suggesting that on the commercial side.

No, we're really not, Andy. We have not a booming commercial aftermarket, but we have steady commercial aftermarket experience here in our FY '15 and that is what we're expecting here for FY '16. Now from quarter to quarter of course there can be some issues, but we didn't experience in Q4 and we're not planning on anything unusual other than the normal seasonal patterns that we will see in FY '16 as we saw in FY '15.

Your next question comes from John Inch from Deutsche Bank. Please proceed.

Jon, you mentioned the $50 million carry-forward from I guess your 2015 initiatives into 2016 and you also mentioned $70 million. Does the $70 million map to the $100 million of charges you are taking? So that would imply, based on what you said, $14 million or 20% savings in the first half and $56 million or the remainder 80% in the second half? So basically we're looking at an incremental $120 million with that split out? Is that the benefit for 2016, is that the way to think about it?

I think you are right, Jon. I am going to have to take a look at my numbers here right now. We have got savings of $24 million that are related to the $100 million in the first half. And we have got a savings of $46 million in the second half related to the backend of a $70 million of the $100 million cost. So the total cost for the program in FY '16 is $100 million, the total savings in FY '16 is $70 million. So there is a total net cost of $30 million which equates to $0.15. That $0.15 is built into our guidance.

But a total restructuring benefit excluding the cost of $120 million, right, because of $50 million that you said was--?

That is correct.

Okay. And then you were kind enough to give us your first half/second half assumptions. What would be your organic growth assumptions, Jon, first half versus second half? Is there any way to provide a little color there? To get to Tom's point about flat for the year?

Yes, I'm going to just give you a rough order of magnitude on the organic growth in the second half of FY '16 as part of our guidance is about 2.5% organic growth on, of course, much different comps that we're talking about right now at that time that we're projecting for our FY '16 Q3 and Q4.

With a little bit of recovery excluding comps baked into that I am assuming based on all of the commentary you've made in this call. Is that fair?

That is right. That dovetails into the comments that we were hearing from Tom and Lee and our slow but sequential pick up starting in the second half -- very slow, very modest.

And can I just follow up on the $100 million? You guys had issues in Europe for many years, you weren't the only company, you kind of bit the bullet in 2014 and took some very substantial outsized restructuring. And here we're heading into 2016 and there is another $100 million which encompasses Europe. So really I guess my question is of the $100 million, how much of that would be structural versus variable? Right, so reduction in force in response to weak markets? And then what is it exactly that you are doing in Europe that you didn't already do through actions in 2014 and 2015? I'm just try to understand kind of what --.

Sure.

So what is really happening here to get it to the $100 million?

So, John, this is Tom. There is a difference between what we did before. Before we focused on footprint optimization and classic plant consolidations and those type of things. The simplification initiatives which is, as you know, 60% of the total restructuring cost, is focused more on organization and process optimization looking at revenue complexity. And that is global, it is not picking on Europe. This is 50-50, we're going to have half of these actions in North America and half internationally. And that half international will cover Latin America, Asia-Pacific and Europe because these processes are issues around the world. And we're just taking a fresh look at it around revenue complexity organizational complexity, division consolidations and bureaucracy. And I can tell you right now this has got a lot of energy behind it, a lot of enthusiasm. It is not easy and it is tough decisions, but there is a lot of interest because when you do these things right you are going to be faster to serve customers and it is going to enable growth for the company.

It really sounds, Tom, as if this was probably tied to your own succession as CEO and just kind of a refresh of Win for the most part versus just making sure that there was nothing in the quarter you said, uh oh, you know what, May is really tough, we're just going to have to get out and bite the bullet and take a lot more restructuring. I am assuming that most of this, call it -- you could call it almost strategic -- is that a fair statement? Or is there really just kind of almost balance based on obviously the short cycle economy which is pretty tough right now.

Well, John, I think you nailed it. This is something that both Lee and I and Jon have talked about knowing when the succession was going to happen that this was something strategically that we did want to look at. And this is really two parts -- we're going to do the normal adjustments to the market that we have always done, the classic restructuring realignment and on top of it we're going to do these strategic things which is going to have a much more efficient cost structure and a much more -- much better service model for our customers. And that is just one element of the refreshed Win Strategy. Everybody on the phone, you get a chance to hear a lot more detail. So we called this one out the simplification piece because it is a big part of this year's operating plan. But there is a lot of other things we want to talk to you about all around growing the company best as the market and expanding margins which we'll give you a lot more color at IR day here in September.

Okay, well, thanks, John. And this concludes our Q&A and our earnings call for today. Thank you to everybody for joining us. Robin will be available throughout the day to take your calls should you have any further questions. Thank you and have a great day.