Parker-Hannifin Corporation (PH) Q2 2018 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen and welcome to the Q2 2018 Parker-Hannifin Corp. Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions]. As a reminder, today's conference is being recorded. I would like to [indiscernible] Ms. Cathy Suever. You may begin ma'am.

Thank you, Kevin. Good morning, and welcome to Parker-Hannifin's second quarter fiscal year 2018 earnings release teleconference. Joining me today are Chairman and Chief Executive Officer, Tom Williams; and President and Chief Operating Officer, Lee Banks. Today's presentation slides, together with the audio web cast replay, will be accessible on the company's investor information web site at phstock.com for one year following today's call. On slide number 2, you'll find the company's Safe Harbor disclosure statement, addressing forward-looking statements, as well as non-GAAP financial measures. Reconciliations for any reference to non-GAAP financial measures are included in this morning's press release and are also posted on Parker's web site at phstock.com. Today's agenda appears on slide number 3. To begin, our Chairman and Chief Executive Officer, Tom Williams, will provide highlights for the second quarter. Following Tom's comments, I'll provide a review of the company's second quarter performance, together with the guidance for the full year fiscal 2018. Tom will then provide a few summary comments and we'll open the call for a question-and-answer session. Please refer now to slide number 4, as Tom will get us started with the highlights.

So thank you Cathy and good morning everybody. Thank you for joining the call and of course your interest in Parker. So let me just make a few general comments and I will get into the quarter specifically. So a top focus of the company continues to be safety and the engagement of our people. These are obviously interconnected, as we improve safety for all of our team members and we have higher levels of engagement across the company, who are going to continue to drive higher and higher operating improvements. When you look at orders for the quarter, very strong momentum across a wide range of markets and geographies, very excited about that. Organic growth was very strong, much faster than industrial production growth, and this is our fourth quarter in a row that we exceeded industrial production growth. The Win Strategy initiatives, when you look at the improvements in growth and operating margins continue to evolve, and we really feel we have got a bright future ahead of us. If you look at the progress over the last few years, remarkable progress. But I would just characterize, that we are still early days of implementing the Win Strategy. So my thanks to everybody around the world, all the Parker team members for all your hard work and your efforts and looking forward to a bright future. So let's get into the quarter, it was a solid quarter and really great first half of the fiscal year, and I will go through a couple of key stats. Safety performance, 22% reduction in recordable injuries, which is very nice. Sales was an all time record for the second quarter, up 26%. Organic growth was approximately a 10% increase, significantly outpacing industrial production growth, and order entry rates increased 13%, making it the highest order entry rates that we have seen since Q4 of FY 2011. So a couple of comments on margins, because it is difficult to look at margins year-over-year, as the prior period did not have CLARCOR net, this period has CLARCOR net. So when you look at adjusted segment operating margins, they continue to improve, we came in at 14.9%. But if you were to add back the incremental depreciation and amortization from the CLARCOR acquisition, you would add 90 basis points back to that number, so what comes in to 15.8% segment operating margins, related to true underlying operating margins as a company, and that represents 110 basis point improvement versus prior year. Another way to look at it, as you look at EBITDA margins for the quarter came in at 16.3%, again, a 110 basis point improvement, if you also adjust out for the divestiture gain that we had in last year's second quarter. When you look at adjusted EPS, it increased 26%; again, excluding the divestiture gain that we had last year and the new tax legislation was a $225 million net one time negative adjustment, Cathy will go through that in more detail in her comments. So we look at cash and capital deployment, our goal is to be great generators and deployers of cash. You have heard me talk about that before, it's really an overarching team of the company, and we remain on track to deliver significant cash flow over the next several years. When you look at the new U.S. tax reform; clearly in the quarter, it was a negative one-time adjustment. However, many long term positives for us to create some more competitive environment, really levels of playing field with our foreign competitors. This creates a nice share gain opportunity for us. It's going to encourage our customers' investment decisions, because the way CapEx is treated in the new tax law. It's clear we are going to encourage CapEx and in turn, will drive through more [indiscernible] content as part of that. And then there is greater flexibility and we are building within cash around the world, which is a big advantage for shareholders. So when you think about deployment priorities, they really remain the same. However, we have greater flexibility obviously. So first on the list is continuing our history of increasing annual dividends paid. So maybe, that will clarify why that is so important to us. So obviously, our longstanding record is important; we don't want to break that. But really speaks to our ability over the cycle to consistently generate cash, which emphasizes why we are such a great long term investment for shareholders. Our target on dividends is 30% on net income over a rolling five year period of time, so obviously as our net income grows, which it will, our dividends will grow in corresponding fashion. Second priority is CapEx for organic growth, the most efficient way to deploy capital back on behalf of shareholders, so that will be on the top of the list. The beauty of our business model and our cash flow generation, when you take those first two priorities and you complete them, we have roughly half of our cash total available to deploy. So here in the near term, we are going to reduce leverage with the CLARCOR deal. We are also going to continue our 10b51 share repurchases. But then as the debt reduces, we are going to revaluate acquisitions and discretionary share repurchases, with the goal always being that we are going to deploy capital in the best long term fashion that we can, on behalf of our shareholders. I would just remind people that we utilized overseas cash to help fund CLARCOR, so we put most of that overseas cash to work already. So I am going to talk about the outlook; and may be just start with some headlines with the new guidance when I look at it from a full year. Now Safety, it's hard for me to predict a full year there, but injuries down 22%, obviously want to continue that trend. Sales up 17% versus prior year. Adjusted EPS up 21% versus prior and adjusted EBITDA margins forecasted to be 17.6% for the full year versus 16.3% last year, so that's a 130 basis points improvement, again excluding the divestiture gain we had last year. Now specifically regarding EPS, we are increasing EPS, adjusted EPS by $0.45 at the midpoint. So our new range is $9.65 to $10.05, reflects the reduction in the U.S. federal tax rate, our year-to-date results, regarding realignment in CLARCOR costs achieved, they are going to be at the same levels that we previously anticipated. So now going forward, we are going to continue to drive the Win Strategy, and I am going to just make a couple of comments about each of the goals here briefly. But engage people, still our first goal, it's all about creating that cornership [ph] culture, and I would remind people that being an owner, people think differently when they think and act like and owner, and it creates a level of intimacy and accountability with your respective area of responsibility that drives results, and I would characterize our engagement process across the company as being the water [ph] that's going to lift performance up for the whole company. Second goal is premier customer experience, and we are moving from a service mindset to an experience mindset, and we are doing that by rolling out a new metric like [indiscernible] recommend, and that's now fully deployed and we are getting great customer feedback from that and it gives us tremendous opportunity to improve. And remember, the whole purpose behind the great experience is that it leads to share gain, leads to faster growth. Third goal, profitable growth, and we have a number of initiatives which I won't go through here. All around driving growth fast than the market. And then financial performance, that's what I would call affectionately, the big four strategic initiatives, that's simplification, lean enterprise, strategic supply chain, and value pricing, and we see tremendous upside really in all four of those categories. Now we are really looking forward to seeing everybody for our Investor Relations day on March 7, so let me just give you a quick commercial on what the high level agenda is going to be. We are going to give you a progress report on the new Win Strategy. We are going to give you an update on our five year targets. We will give you a much more detailed review on the CLARCOR synergies, and we just characterize that the integration is going very well or what's happening, we will give you more color on that on IR day. And then we are going to give you presentations from three of our six operating groups, aerospace, engineering materials and filtration. First time we have given that level of transparency and detail, so I think you will enjoy that, we look forward to sharing that with you. So in summary, we are looking forward to a record year, and a continuous improvement with the Win Strategy. So with that, I am going to hand it back to Cathy for more details on the quarter.

Okay, thanks Tom. I will now refer you to slide number 5, and begin by addressing earnings per share for the quarter. Adjusted earnings per share for the second quarter were $2.15 compared to $1.91 for the same quarter a year ago. When comparing to second quarter fiscal 2017 results, please recall that, last year included a $45 million or $0.21 per share gain on the sale of our product line, which was not adjusted out. Excluding this product line gain, adjusted earnings per share increased 26% from the same quarter last year. The respective adjustments for both years are as follows; fiscal year 2018, second quarter operating income adjustments, include business realignment expenses of $0.07 and CLARCOR cost to achieve of $0.07. This compares to $0.04 for business realignment expenses in the second quarter in fiscal year 2017. Other expense in fiscal year 2018 has been adjusted to exclude a net gain of $0.05, which includes a gain from the sale of assets, offset by the write-down of an investment. Prior year other expense was adjusted for $0.09 of acquisition related expenses. Last but not least, fiscal year second quarter 2018 has been adjusted for the net one time impact from U.S. tax reform of $225 million or $1.65. I will discuss this adjustment in more detail on slide 13. If you move now to slide number 6, you will find a significant component of the walk from adjusted earnings per share of $1.91 for the second quarter of fiscal 2017 to $2.15 for the second quarter of this year. The most significant increase came from higher adjusted segment operating income of $0.62, attributable to earnings on meaningful organic growth, income from acquisitions and increased margins, as a result of our new Win Strategy initiative. I'd like to point out that this $0.62 improvement is net of incremental depreciation and amortization expense of $0.16 taken on with the CLARCOR acquisition. The lower effective income tax rate, equated to a year-over-year increase in earnings per share of $0.07. Adjusted earnings per share was reduced by $0.31 on the other expense line, primarily due to the non-recurring $0.21 per share gain from the sale of a product line included in the prior year. Higher interest expense was an $0.11 drag, together with slightly higher corporate G&A and share count, equating to a $0.03 per share reduction. Moving to slide 7, you will find total Parker's sales and segment operating margin for the second quarter. Total company organic sales in the second quarter increased year-over-year by 9.5%. There was a 13.3% contribution to sales in the quarter from acquisitions, while currency, positively impacted the quarter by 3.4%. Total segment operating margin on an adjusted basis improved to 14.9% versus 14.7% for the same quarter last year. I'd like to remind you, that the fiscal 2018 operating margins include incremental depreciation and amortization from the CLARCOR acquisition. Without this incremental expense, margins would have improved 110 basis points. This margin improvement reflects the benefits of higher volume, combined with the positive impacts from our Win Strategy initiatives. Moving to slide number 8, I will discuss the business segments, starting with Diversified Industrial North America. For the second quarter, North American organic sales increased by 12.7% compared to last year. Acquisitions contributed 26.3% to sales, while currency also positively impacted the quarter. Operating margin for the second quarter on an adjusted basis was 15.1% of sales versus 16.6% in the prior year. Current year includes 160 basis points of CLARCOR related incremental depreciation and amortization expense. Without this, margins improved 110 basis points. I will continue with the Diversified Industrial International segment on slide number 9. Organic sales for the second quarter in the Industrial International segment increased by 10.7%. Acquisitions positively impacted sales by 6%, while currency, positively impacted the quarter by 8.1%. Operating margin for the second quarter on an adjusted basis was 14.2% of sales versus 13.1% in the prior year. This includes 40 basis points of Parker related incremental depreciation and amortization expense. I will now move to slide number 10, to review the Aerospace Systems segment. Organic revenues increased 0.8% for the second quarter. Strengths in both commercial and military aftermarket, more than offset weakness in OEM activity during the quarter. Operating margin for the second quarter adjusted for realignment costs saw 16% of sales versus 13.5% in the prior year, reflecting the impact of a favorable aftermarket sales mix and lower development costs during the quarter. Moving to slide 11, we show the details of order rates by segment. As a reminder, Parker orders represent a trailing average and are reported as a percentage increase of absolute dollars year-over-year, excluding acquisitions, divestitures and currency. The Diversified Industrial segments report on a three month rolling average, while Aerospace Systems are based on a 12 month rolling average. Total orders continue to be strong, improving to a positive 13% for the quarter end. This year-over-year improvement is made up of 15% from Diversified Industrial North American orders, 13% from Diversified Industrial International Orders and 8% from Aerospace Systems Orders. On slide 12, we report cash flow from operating activities. Year-to-date cash flow from operating activities was $460 million or 6.8% of sales, compared to 7.5% of sales for the same period last year or 11.5% last year adjusted for a $220 million discretionary pension contribution. The significant capital allocations year-to-date have been $176 million for the payment of shareholder dividends, $145 million or 2.2% of sales for capital expenditures and $100 million for the company's 10b51 repurchases of common shares. On slide 13, I will now take a moment to discuss the impact of U.S. tax reform. In the second quarter, we incurred a net $225 million charge, that includes a $287 million one-time charge for the deemed repatriation of non-U.S. earnings, offset by a favorable $62 million adjustment to our net deferred tax liabilities to the new 21% federal rate. I need to mention, that these onetime adjustments are our best estimates at this time, however the amounts may change, as we continue to analyze the impact of tax reforms. Due to our June 30 fiscal year, our statutory U.S. tax rate for fiscal year 2018 is blended at a 35% rate for the first half of the year, and a 21% rate for the second half of the year, which results in a 28% full year U.S. statutory rate. This reduced rate will have a favorable impact on cash for fiscal year 2018. As for the long term implications, the U.S. tax reform will result not only in increased net income, but we can benefit from improved mobility of our non-U.S. cash. The payments of the deemed repatriation charge will commence in fiscal year 2019, where it will be a use of cash over eight years with significant balloon payments from the last three years. Based on our initial analysis, we expect our long term effective tax rate to be approximately 23% beginning in fiscal year 2019. Fiscal year 2018 is still a blended rate. The full year earnings guidance for full year 2018 is outlined on slide number 14. Guidance is being provided on both an as reported and adjusted basis. Total sales increases are expected to be in the range of 15.3% to 18.9% as compared to the prior year. Anticipated full year organic growth at the midpoint is 6.5%, which is a 100 basis points higher than our previous guidance. Acquisitions in the guidance are affected to positively impact sales by 8.1% and currency is expected to have a positive 2.5% impact on sales. We have calculated the impact of currency to spot rates as of the quarter ended December 31, 2017, we have held those rates steady, as we estimate the resulting year-over-year impact for the remaining quarters of fiscal year 2018. For total Parker, as reported segment operating margins are forecasted to be between 15.3% and 15.7%, while adjusted segment operating margins are forecasted to be between 16.1% and 16.5%. Full year tax rate is now projected to be 25%, down from our previous guidance of 28%. For the full year, the guidance range on an as-reported earnings per share basis is now $7.38 to $7.78 or $7.58 at the midpoint. On an adjusted earnings per share basis, the guidance range is now $9.65 to $10.05 or $9.85 at the midpoint. In addition to the full year net loss of $5 million resulting from the combined gain on sale and writedown of assets and the net provisional tax charge of $225 million, this guidance on an adjusted basis, excludes business realignment expenses of approximately $58 million for the full year fiscal 2018. Savings from business realignment initiatives are projected to be $25 million. In addition, guidance on an adjusted basis excludes $52 million of CLARCOR cost to achieve expenses. CLARCOR synergy savings are estimated to be $58 million in fiscal year 2018. We continue to remain on pace to realize the forecasted $140 million run rate synergy savings for CLARCOR by fiscal year 2020. Savings from all business realignment and CLARCOR costs to achieve, as well as anticipated full year favorable effects from U.S. tax reform, are fully reflected in the as reported and the adjusted guidance ranges. We ask that you continue to publish your estimates using adjusted guidance for purposes of representing a more consistent year-over-year comparison. Some additional key assumptions for full year 2018 guidance at the midpoint are; sales are divided 48% first half, 52% second half. Adjusted segment operating income is divided 45% first half, 55% second half. Adjusted earnings per share, first half second half is divided 45%, 55%. Third quarter fiscal 2018 adjusted earnings per share is projected to be $2.59 at the midpoint, and this excludes $0.08 of projected business realignment expenses and $0.09 of projected CLARCOR costs to achieve. On slide 15, you will find a reconciliation of the major components of fiscal year 2018 adjusted earnings per share guidance of $9.85 at the midpoint compared to the prior guidance of $9.40 per share. Increases include $0.14 from higher segment operating income, $0.41 from a lower effective tax rate, and $0.01 from lower projected corporate G&A. Offsetting these increases is an $0.08 per share decrease from higher forecasted interest and other expense, and $0.03 per share from increased fully diluted share count. Please remember, that the forecast includes any acquisitions or divestitures that might close during the remainder of fiscal 2018. This concludes my prepared comments. Tom, I will turn the call back to you for your summary comments.

Thank you, Cathy. So we are pleased with the strong first half of the year that we have had. A combination of our sales growth, the lower cost structure that we have built, integration of CLARCOR and execution of the Win Strategy, that combination is projecting for us to have the best fiscal year that we have ever had in the history of the company, with an all time sales record. So my thanks to everybody around the world Parker team for all your hard work and efforts into creating that. So at this point, let me hand it back to Kevin. We will start the Q&A part of the call.

[Operator Instructions]. Our first question comes from Joe Ritchie with Goldman Sachs.

Thanks. Good morning everyone.

Good morning Joe.

Can you maybe -- let's just touch on the North American margins for a second. Clearly, it's going to be the pretty big focal point today. And you guys have talked a little bit about the impact from the CLARCOR and dilutive impact that's having to your margins. But did that number change at all on a quarter-by-quarter basis, because the margins were down a little bit more this quarter than they were in the prior quarter? And then my follow on there is, can we maybe just talk a little bit more about like the other potential puts and takes to margins and what impacted them this quarter?

Okay, so Joe, this is Tom. Maybe to help everybody, I am going to run through the margins and give you back the incremental D&A, depreciation and amortization, when we have no CLARCOR deal. Cathy did that and I am going to summarize it again just so you have it. So North America, if you add that back, the 160 basis points of incremental depreciation and amortization, North America's operating margin for the quarter would have been 16.7%. International, you add back 40 basis points, international's margins would have been 14.6%. Aerospace, obviously not impacted, 16.0%. Total Parker, you add back 90 basis points, 15.8%. So when you look at it all in, North America still was higher by 10 basis points versus prior year. There are some challenges that we have faced in the quarter and faced a little bit when you just look at the mix of order entry and sales that we have. When you look at our -- we are tickled pink with our sales growth. But then, the mobile part of the sales growth is drawing at a faster clip than industrial and distribution. So we have got mobile growth at approximately 20% for the quarter, Industrial, high single digits, and distribution in the low teens. So that mix is putting a little bit of margin headwind for us, and we had a number of plant closures, and when you look at our restructuring; restructuring dollars are not always at equal level of complexity. You know, if you close down a headquarters, like when we closed down Franklin, it's a little more straightforward as -- as the headquarters for CLARCOR, for those of you who aren't familiar. It's a little more straightforward, as far as how you incur those costs. We are right now in the heat of the restructuring for CLARCOR, in particular, around the manufacturing footprint consolidations. So to give you some color in it, so plant closures last year, 23 plant closures for the total company. This year, 39. So that level of plant closures, and there is inefficiencies that you are impacted by both ends of that equation. So plant A that's getting closed down, obviously has some impact when you announce it. Things don't work quite as well, if you have announced the plant closure. And then plant B, is it's coming up to speed in efficiencies that yields line rates, etcetera, just take a little bit of time to come up. So we have incurred all that and the margins still grew 10 basis points. Again, making it apples-to-apples the depreciation and amortization. But that gives you some color as to some of the dynamics that we are feeling from a margin standpoint.

That's helpful Tom. I guess maybe the follow-on there is, is this quarter then the trough from -- that we should expect from like -- from an inefficiency perspective, from the plant closure perspective, or is this something that could potentially be a headwind to North America margins for the next couple of quarters?

Well it's in our guide, North American margins for the full year at 17.2% for the full year, which is a pretty nice performance, with all of this. But yes, because we are right now in the thrills of this, we experienced it this quarter, we probably are going to see for the next two quarters. Remember, this is a three year synergy plan that we were laying out. The bulk of it, the heavy lifting from a footprint standpoint is this last quarter we just experienced really the next six months. But even with all that, we have got margins at very nice levels. EBITDA, which is a nice way to look at it, because it takes out the depreciation and amortization, growing to 17.6% versus 16.3% last year. I guess, I would just remind everybody, when we announced the deal, December 1 of 2016, not that I remember that date [indiscernible], that's an important date for the history of the company. We announce -- we were to tackle a 300 basis point EBITDA margin improvement. And at that time when we made the announcement, we were sitting at 14.7% EBITDA margin. So we have almost accomplished that 290 basis points. Remember we told you 300 bps was a five year look in the combined company. So we have done it basically in two years almost. So I am very proud of what we have done from a margin standpoint. We have a few of those challenges that I just mentioned, but we are putting up some pretty nice numbers in the further heat [ph] of the CLARCOR synergy plan.

That's helpful. If I could maybe sneak in one more, just on -- again, just the kind of end of the calendar year. We have been hearing from some of our companies that because organic growth surprised to the upside and clearly, like the growth in North America was extremely strong, that there were higher rebates as well to distributors that flushed out in the fourth quarter -- least accounted the fourth quarter. Did you guys experience any of that, just given 50% of your business sells through distribution?

This is Lee. You know, we did have great sales during the quarter and order entry continues to accelerate. But there is nothing meaningful regarding rebates or anything that's factored in to what you have seen.

Okay, got it. Thanks guys. I will get back in queue.

Thanks Joe.

Our next question comes from Ann Duignan with JPMorgan.

Hi. Good morning.

Good morning Ann.

[Indiscernible] my question has been answered, it would have been on the North American margins. So the color was top [indiscernible] at least. Maybe switching gears a little bit to Aerospace, can you talk about your mix of business today, and where do you see that going? If I recall, you are pretty strong than the 747, pretty strong than the A380, I mean programs that might be ending, and also very strong with Embraer and whether your relationship with Embraer would change, if Boeing were to acquire Embraer. So just little bit of background on the Aerospace business please?

Ann, I will start out. In the quarter, we had an unusually strong mix of aftermarket, both commercial and military. And that came with higher margins, since our aftermarket typically has higher margins, but it was also a very favorable mix of aftermarket. It was a little unusual in the quarter, however in the third quarter, we see our strongest aftermarket activity. So third quarter should be a similar mix, but it's not necessarily a full year mix that we would normally see. Yeah, we have platforms that are slowing down. Wide body, we see a lot of slowness in the market. But keep in mind, that we are very diverse in our portfolio, and there are also new programs coming on. So as some of them are shutting down or slowing down, we are also seeing growth in like the A350 and in platforms like the Global 5000. So I think our portfolio mix helps balance the impact that you are describing, and you won't see a significant impact.

Okay. So you are suggesting that fiscal Q3 should be strong margins and then taper off? Is that what I should read in the near term?

The Q3 tends to be our strongest quarter for aftermarket. It's when the OEs, the large airlines are typically having the planes brought in for a repair. So three will be good, yes.

Okay. I will leave it there and get back in queue. Thank you.

All right. Thanks Ann.

Our next question comes from Joel Tiss with BMO.

Hey guys, how is it going?

Hi Joel.

I will just glue both of my questions together. I just wonder if, maybe Tom or whoever, if you could talk a little bit about -- it seems like the order strength is a lot higher than what you are hinting at earlier in the year for your second half? I think your implied order growth was pretty close to flat, and I just wondered why more of that? Is there anything happening that would undercut your confidence on the sustainability of that? And second if Lee could just kind of run around the world and give us some of the highlights of the different businesses? Thank you.

Okay, Joel. I will start off -- this is Tom, and I will hand it to Lee in a second here. On the order entry, I think in our sales forecast; so we revised our guidance, basically up 100 basis points on organic from 5.5 to 6.5, kept acquisitions, kept currency, same assumptions. So the new guide, up 100 bps. In the second half in particular, we have raised it from the previous guide, it was 3.7% to 5.0%. So that's what we are forecasting for the second half of the year. And I would just remind everybody, we don't feel anything weakening from a macro standpoint, Lee will cover that momentarily. We feel good about the macro markets and all that. Our sales numbers sort of based on the comps we have versus the prior year last year, second half of FY 2017 plus 6% organic growth. So our plus 5% forecast is building on top of the plus 6%. So that's just the comparable math -- the mix of the numbers. We feel good about the macro conditions. I will let Lee kind of take you through the world.

Joel, it's Lee. So I am not going to comment on Aerospace. I think Cathy did a great job on that. I would just say industrially, as you look through all our end markets, it's really hard to find any significant markets did not continue to show positive year-over-year order entry growth during the quarter. And some of these markets fall a long way, especially when it comes to natural resource end markets. And they continue to show growth during the quarter. We saw strong growth in construction equipment, mining, oil and gas, which is mostly land based, almost all land based, frankly. And then other markets like semiconductor, microelectronics, heavy duty truck and distribution was strong. Land based oil and gas, if I think about the Americas, the amount of active rigs continue to expand, and I think what's really positive is, we are starting to see quote activity with some customers that we haven't seen much in the past. So they are doing more than just refurbishing what's in the field. We also saw a great continued rebound from our distributor partners around the world. Almost every region, double digit order entry, which is really nice, and they continue to be very optimistic. The only notable market that we see contraction in and it has been significant has been large frame power jet. I mean, that has gotten a lot of press and it's real, so that has had a negative impact. And just commenting on the regions, I won't take you through all the markets. But North America continue to be very encouraged by all the increasing end market activity. It just seems that it's somewhat firing on all cylinders. I think there is some worry about maybe in-plant automotive activity, but we haven't seen much dampening on that yet, but we are keeping an eye on that. Throughout EMEA, continued strong order entry growth, this would be the second year, we are forecasting organic growth, in which there was a long trough there, we didn't see that. And then in Asia, Japan, Korea, China continue all to be very strong, Southeast Asia is really good, so I am encouraged by what's happening there. And then just lastly on Latin America, it seems that there is some good positive momentum in Brazil, despite all the politics. So we are hopeful, there continues the turnaround. So I would just say, we are really happy with what's happening in the Embraer, it's both domestically and internationally, and I think in some cases, we are pretty early stages, because of how far some of those industries have fallen.

That's really super. Thank you.

Thank you.

Thanks Joel.

Our next question comes from John Inch with Deutsche Bank.

Thank you. Good morning everyone.

Hi John.

Cathy, hi. The tax rate was a little lower in the second quarter. I don't think you talked about it. What was that about?

Sure. So let me just reiterate for the year. We expect it to be 25%. We are at a 28% blended rate for U.S. federal. In December, we adjusted everything to that new blended rate. So as part of that, you do a catch-up of what you had booked provisionally in the first quarter, and you catch up the year for the six months to your assumed effective rate for the full year. So you get a little bit of a double benefit in December from the lower tax rate for the year.

So even though tax -- okay. So I am just trying to understand, tax reform though is a calendarized impact. You are saying, this is actually a function of tax reform, is that what you are saying?

Yeah, correct. It was effective January 1, but for us, it become half effective. So what they require us to do, is take the number of days that we would be at a 35% rate, and the number of days we'd be at a 21% rate, and that come to a 28% effective rate for our full fiscal year.

Okay, that makes more sense. I got it. Thank you. What about the mix of orders? Tom, you talked about stronger OE and that's -- you talked about the ramp down I guess, in terms of the plants, but the stronger OE is sort of pricing [ph] margins a little bit to the downside. Is that embedded in the mix of orders that you are seeing, so we would expect that kind of OE mix to still prevail over the coming quarters?

John, it's Tom. Yes, it would and that's what factored into our guidance, part of why we left margins, the same as our prior guide, because of that. But over time, that's going to start to stabilize. And those things, the high spike and mobile activities is going to start to stabilize at a lower number, and I think this imbalance, I guess, [indiscernible] order entry, shift a little bit more to mobile, become more in check, as we go throughout the next several quarters.

Right. So mobile is clearly accelerating and I think you could make that claim globally. What's happening with respect to distribution then, at the high single digit? I think you called out that run rate, is that actually accelerating at a lesser cadence, or is it sort of steady?

I wouldn't characterize. I am going to let Lee chime in -- as in, add. Distributions in the low teens is what it's at. But I would characterize it as stable. High levels of growth [ph] stable, and it will glide down into something in the mid-single digits in the second half, mainly just because of comps in the prior year.

CLARCOR also, I think we took your guide from what $0.20 to $0.33, was that all tax? Or is the business actually getting better?

I am sorry, I didn't quite understand what you are asking John?

The EPS accretion from CLARCOR. I calculated, it looks like it is about $0.33 for fiscal 2018, and I thought you had said it was going to be about $0.20. Maybe that's not true. I am just wondering, are you expecting CLARCOR accretion benefits to improve from what you had last said, I think last year, right?

Yeah John. We are still at about a $0.20 accretion for CLARCOR for fiscal 2018.

Fiscal 2018? Okay.

Yeah.

Last I guess, just wanted to ask Tom just a strategic question. Is there an opportunity to maybe migrate? If you look at the -- your sort of a distribution of your customers, maybe some of your smaller ones at the tail, is there an opportunity to migrate those in your OE bucket, more to the distribution side to perhaps free up some of your own overhead that other operating costs, you know what I mean to, try and drive further Parker-Hannifin productivity over time?

Clearly John, you hit the nail on the head. What you are referring to is really part of our simplification program, and the element in particular, as you talked about, was the revenue complexity side of things, that 80-20 will look at all of our revenue and our products. And clearly, when we look at that tail, that's one of the areas we are looking at, and we moved some of that product to distribution, so distributors would do a better job of servicing the customers in that regard, could we look at self-service there, can we look at alternative part numbers that might be higher running part numbers that runs at a plant. So there's a variety of tools that we are looking at, but yes, you nailed one of the things we are looking at.

And is that -- I am assuming like, where are you at in terms of beginning to implement that? Is this still very preliminary, or have you actually started? Just [indiscernible], obviously you have done a great job with respect to the margin expansion that you called out, so we are all trying to think about the next level, and we can obviously compare Parker versus ITW or other companies with higher margins. So the thought process is really around just various levers you may be able to pull over time, to help drive your overall profitability higher from here?

Yeah, we see more opportunity obviously, and that's something we will go into more detail at IR Day. But when I think about simplification, lean, strategic supply chain, value pricing, all those things underneath the financial performance initiatives, I would characterize them as all having lots of upside. The revenue complexity piece that we just were talking about, the first inning, clearly the first inning. So lots of upside there.

Got it. Thanks so much. Appreciate it.

Thanks John.

Our next question comes from Andrew Obin with Bank of America Merrill Lynch.

Hi guys. Good morning still I guess.

Good morning Andrew.

Just a question on -- [indiscernible], just a question on international margins, just in your outlook, you are actually modeling them now a little bit lower than before, and I was wondering if that's the impact of mobile mix and what else is going on there? Is the dynamic there similar to what you guys are seeing in North America?

Yeah Andrew, it's Tom. It would be the mobile mix, because most of our heavy plant closures are in North America. A little bit in Europe, but North America is stealing more of the plant closures. So Europe, the international piece, we change the guide by 10 bps, and it's mainly the mobile mix.

And just a question in terms of dealing with high volumes and maybe this is sort of a three-pronged question; just focused on distributors, do they need to change their behavior, do you have enough capacity, and finally, working capital impact? Just because volumes are going up a lot faster than you guys thought?

Andrew, it's Lee. I think if I understood your question, is we have to do anything different to handle the --

That's exactly right. And working capital requirements, exactly.

No. I'd say from a working capital requirement standpoint, obviously when you have a huge influx in business in tax receivables for a period of time. But I would say, the biggest working capital requirements we have had throughout the quarter, really the first half of the year, have been with all these plant closures. So there has been a conscious build of inventory in some areas that we don't impact your customers. I would say with revenue, with our OEM customers, there is nothing that we do differently. Some of these customers, we categorize our products with high runners, running through the shop, and distribution would follow many times too in the same category. So there would be nothing different, it's just the level of activity would heighten up with the value streams running -- not at capacity, but running a lot higher demand than they have run in the past.

Good problems to have. Thanks a lot.

Thank you.

Thanks Andrew.

Our next question comes from Jamie Cook with Credit Suisse.

Hi, good morning. I guess two questions, one, in the quarter, and guess as you look at your -- the remainder of the year, are there any different assumptions around price costs or your ability to get price in a market? Can you just talk about how that's going? And then my second question, sorry, back to North America Industrial; Tom, I appreciate the comments you had made about CLARCOR in closing or plants and stuff like that, and that will impact margins or incrementals over the next two quarters. But as we shift to fiscal year 2019, with most of that done, can we start to think about North America achieving more normalized incremental margins, or given where we'd be in the cycle, could you get above average incremental margins, versus your longer term target? Thanks.

Jamie, it's Tom. I will start with your last question and I will let Lee talk about price costs. So yes, once we get through a lot of this heavy lifting, we would expect things to normalize. The other part that's going to help us, once we anniversary CLARCOR and we can look at the total company, apples-to-apples, it's going to be lot easier, and our Q4 is the first time when we get apples-to-apples and even with all the plant closures in that, which will still be happening in Q4, we see that getting to the 30% MROS type of level. So yes, the short answer is, you will see us get back to normal type of marginals. So I will let Lee talk about -- go ahead Jamie.

Sorry, no. Just to clarify, so 30% or given where you are in the cycle and what some of the restructuring could we theoretically do better than that? Because 30%, I would assume is like more your normalized, but given their structuring and you are still early in the cycle, I would think you know, because it would still be the back half of calendar year 2018? [indiscernible] we could do better than that?

Well, the number I gave of 30% in Q4 is with all that noise and all the plant closures, with the mobile mix not necessarily helping us. So I think [indiscernible] to the underlying marginals at a pretty high level.

Okay, that's helpful. Thank you, Tom.

Then Jamie, on price costs, I would tell you that there clearly is inflation on the horizon. I mean, you can see materials indexes, we have seen it in copper, we have seen it [ph] etcetera. We have been through these cycles before. I would say at this point in time, from a price cost standpoint at a corporate level we are good. But we are definitely taking actions to stay ahead of this, as we go forward.

Okay. That's helpful. Thanks. I will get back in queue.

Thank you.

Thanks Jamie.

Our next question comes from Nathan Jones with Stifel.

Good morning everyone.

Good morning Nathan.

I am going to beat the North American margin horse one more time. Tom, you talked about the facility closures, up from 20 to -- or 23 to 39 this year. Is it possible for you to quantify the impact of the disruption that that's had, need to build inventory, that kind of stuff? And are you going to be backed down to -- I don't know, 23 in 2019, will you be done through this? What's the kind of stepdown in the facility closures that you are looking out for 2019?

For 2019, so we haven't worked all of that. But clearly the bulk of the CLARCOR activity will be through. There might be some residual things that we are doing, plant closures on CLARCOR in 2019. But we haven't [indiscernible] what the rest of the business at that point. But clearly, this is a spike in plant closures with them. Now we have a rule, strict policy in how they count for making adjustments, and so, we only count adjustments that you can put clear plant closure costs on, severance, and those kind of things. So we don't try to add up manufacturing efficiencies and production rates and yields and all that kinds of things. And to be honest with you, I would be just giving you a number that would be [indiscernible] and wouldn't be a good factual number. But I think anybody that has closed the plant, knows exactly what I am talking about, and you feel it on the sending plant and you feel it on the receiving plant. So it is real and typically any plant closure, even a well laid out plant closure, feels that for three to six months. And so that's -- we are in the middle of that. We fully expected that this is the biggest acquisition we have ever done, with the largest synergies we have ever done, and we feel very good about it. But you are kind of right now in the heat of the battle. The supply chain savings, SG&A, logistics, those are more straightforward. If I was to characterize, it's like the slope of a treadmill, those are at a lower slope; when you close a lot of factories, it's a higher slope of the treadmill, and I would just commend the teams, that I know are listening to this. Closing these number of factories, and what we have done from a margin standpoint, taking care of customers, is really terrific work what the team is doing.

Okay. Then my follow-up is on one of your prepared comments, where you said you feel that the change in the tax bill would open up share gain opportunities for you, and drive customer CapEx. Can you maybe talk a little bit more about where you see those share gain opportunities? And I know it's very early on the customer CapEx side, but maybe what your expectations are on that front?

Yeah Nathan, it's Tom again. The CapEx is just a general comment. If you encourage people what the kind of tax laws, with an immediate expensing for tax purposes of CapEx for the next five years. That has to be somewhat additive to the current macro environment. So I take a current, very favorable macro environment, add that encouragement there, and I think it bodes well for CapEx in general. How it all plays through, and exactly what areas, that's yet to be determined. But we feel good about that. As far as the gaining share, the point there is, we have a number of foreign competitors, which I won't highlight, which have had a distinct advantage forever. And now that we have a level playing field, I like our chances. I like our chances going toe-to-toe with them with a level playing field, and I will bet on us any day of the week. So that's how I was referring to the share gain, is that we don't have one arm behind our back any more, and let the better person win the order.

Okay. Fair enough. Thanks very much.

Thanks Nathan.

Our next question comes from Jeff Sprague with Vertical Research.

Thank you. Good morning.

Good morning Jeff.

A lot of talk obviously about integration and plant closures CLARCOR related. I am wondering now if you step back and look at the CLARCOR footprint, you have also done a lot of restructuring here over the last several years, and now we are hitting a pretty big business inflection. How do you feel about the footprint right now, actually adequacy of the footprint than what's the trajectory of your own CapEx looking like the next year or two?

Jeff, it's Tom. I think our CapEx will continue to be about 2% of sales. We have been running at 1.7% to 2% range, and I would see it at that level, and I will expand a little bit more upon that at IR Day, kind of more of a strategic thought on that. As far as the restructuring going forward, let me just make one comment to kind of calibrate people as to what we have done with the restructuring of the company, and I will start with prophesizing this that there is a lot more that we can do. But anyhow; we are going to have a circle for the first time in the history of the company, hopefully with this guidance crossing $14 billion. So it makes you go back and look, well okay, what was the last all time high at the company, and how many people did we have? So the last all time high was $13.2 billion in FY 2012 and we had 59,000 team members. So with those guidance, where basically round numbers are going to be $1 billion higher than that, and we are going to have 2,500 fewer people than we had at that peak. So an extra billion of revenue, 2,500 fewer people. So clearly speaks to what we have been doing, as far as the efficiencies and the structure of the company. I would just reiterate, like I said at the beginning that we still see opportunities to continue to improve that, and it still is big four that I referenced, simplification, lean, supply chain and value pricing, as margin enhancements. I doubt that we will continue to be at $110 million clip on our structure, and I think it's going to stabilize at some level. But I don't think it will be big. You have looked at this historically before the new win strategy, we have been in that $20 million to $30 million type of range in restructuring, and I would see us being a little bit higher than that; because I think there is still opportunities for us to continue to simplify the structure of the company, make it faster on behalf of our customers, and we are going to continue to work that.

And then just briefly on M&A; obviously you are deleveraging and divesting [indiscernible] here still primarily. But do you see bolt-ons coming into your view, anywhere in the portfolio, and maybe in filtration in particular?

Yeah. M&A is obviously something that we stay in -- again, it's Tom -- we stay engaged with this all the time; because the relationship building is important to do, whether you are in a position to deploy capital towards that or not. So we have that, we have the strategic candidates that we would like to add to the portfolio, and where it fits and complements our strategy, and we are working that every day, every week. So as we start to glide down, like I mentioned earlier, our debt position, we will clearly look at that. And if I was to characterize our portfolio strategy; first, we want to be a consolidator of choice. So if it is in our space, we'd like to be at bet [ph]. Doesn't mean we will swing, but we'd like to be at bet [ph] to take a look. But all things being equal, we'd like to invest more into Filtration, Engineered Materials, Aerospace And Instrumentation part of the portfolio for a lot of strategic reasons; margins, resilience, to recycle, grow the capabilities, and those type of things. So that would be a little bit of color behind the M&A strategy.

Thank you very much.

Thanks Jeff.

Our next question comes from Jeff Hammond with KeyBanc.

Hey, good morning.

Good morning Jeff.

Can you just -- you talked about some of the disruption, but can you speak to kind of how you are thinking about CLARCOR cost synergy savings second half versus first half?

Yeah. We are going to have $58 million of savings that we enjoyed this year in fiscal 2018. About 35% of that went in the first half, and we expect 65% of that in the second half.

Okay, great. And then just -- Tom, you mentioned kind of the debt paydown, what's kind of the updated timing, where you start to transition away debt reduction?

Well, there is no formal timeline, a lot of it is contingent upon opportunities that present themselves, as we are looking at that. But we'd like to get closer to two times EBITDA multiple, and we started off at 3.5, when we first did the deal, and currently at 2.9. So we are making good progress, and we want to continue to demonstrate that, and when we think we are in a better position from a debt standpoint, then we will start to look again.

Jeff, I will add on to that. We do have some term debt at $450 million due in the fourth quarter of 2018 and $100 million due in the first quarter of 2019. So you can count on that term debt being liquidated.

Okay. Thanks.

Okay, I think we have time for one more question please.

Our next question comes from Josh Pokrzywinski with Wolfe Research.

Hi, good morning. Thanks for letting me in.

Good morning Josh.

Just to maybe come full circle on all the North American margin questions; I know that there are usually some corporate true-up that happened in the second quarter, as is seasonally always the case. Did those look any different than normalized? I know we have beaten it [ph] at this point, but I just [indiscernible]?

Yeah Josh. Let me point out that, the majority of the impact from those true-ups from incentive comps, hits down below the line, when you are looking at segments, it's down in corporate G&A. We did have adjustments, but not anything unusual compared to other years in this quarter. So I don't think that that was a driver of what you are looking at, and it's not a margin impact.

Got you. And then just on the tax rate, I guess all that implies in the second half, but still above the 25%, just given how you had a lower first half? How should we think about kind of the go forward, more of an annualized or fiscal 2019, however you want to think about it rate? Is it still kind of just 26.5% or are you really at 25%, once we get through all the initial payments?

Yeah. Let me step through, so for fiscal 2018, we are at a statutory U.S. rate of 28%. We blend that with our international rates, that gets us to about -- with all the other discretes that have come through so far, we are estimating a 25% rate for this year. Starting in fiscal 2019, we will be at a true 21% statutory rate for U.S., so that will lower our rate. We anticipate our ongoing rate starting in 2019 and forward to be closer to 23%.

Got you. That's helpful color. Appreciate that.

Okay, you're welcome. All right thanks Josh. All right. That concludes our Q&A and our earnings call. Thank you for joining us today. Robin and Ryan will be available throughout the day to take your calls should you have further questions. Thanks everybody. Have a good day.

Ladies and gentlemen, that concludes today's presentation. You may now disconnect and have a wonderful day.