Rockwell Automation, Inc. (ROK) Q2 2015 Earnings Report, Transcript and Summary

Thank you for holding and welcome to Rockwell Automation's Quarterly Conference Call. I need to remind everyone that today's conference call is being recorded. Later in the call, we will open the lines up for questions. [Operator Instructions] At this time, I would like to turn the call over to Rondi Rohr-Dralle, Vice President of Investor Relations. Ms. Rohr-Dralle. Please go ahead.

Thanks, Matt. Good morning. Thank you for joining us for Rockwell Automation's second fiscal 2015 quarter earnings release conference call. With me today as always are Keith Nosbusch, our Chairman and CEO; and Ted Crandall, our Chief Financial Officer. Our agenda includes opening remarks by Keith that include highlights on the Company's performance in the second quarter and the first half, and some contexts around our updated outlook for fiscal '15. Then Ted will provide more details on the results as well as our sales and adjusted earnings per share guidance. As always, we’ll take questions at the end of Ted's remark and we expect the call to take about an hour today. Our results were released this morning and the press release and charts have been posted to our website, at www.rockwellautomation.com. Please note that both the press release and charts include reconciliations to non-GAAP measures. A webcast of this call is accessible at that website and will be available for replay for the next 30-days. Before we get started, I need to remind you that our comments will include statements related to the expected future results of our company and are, therefore, forward-looking statements. Our actual results may differ materially from our forecasted projections due to a wide range of risks and uncertainties that are described in our earnings release and detailed in all of our SEC filings. So with that, I'll hand the call over to Keith.

Thanks, Rondi, and good morning everyone. Thanks for joining us on the call today. Before I get started, I just wanted to say a few words about the announcement that we sent out a couple of weeks ago about Rondi’s retirement plans. This will be her last earnings call and I want to thank her for the outstanding job she has done over her career. Her leadership and contributions most recently in the Investor Relations role has been tremendous. I value her consults, insight and positive can-do attitude. She was a pleasure to work with, a true professional and a great person. She helped us become a better company, but she’ll be around for a while yet and I can assure you that you will all be in good hands as Patrick [Goss] assumes responsibility for Investor Relations starting in July. Let me start with some highlights for the quarter and the first half. So please turn to page three in the slide deck. Earnings growth in the quarter was robust despite a decline in sales due to a large currency headwind. Organic sales growth was a solid 2.7%, led by Architecture & Software. Logix sales were up 6% in the quarter, driven by our midrange portfolio. Our process business grew 2% in the quarter, which is good results given underlying market conditions. Margin expanded 270 basis points in the quarter, which contributed to a strong adjusted EPS growth of 18%. Free cash flow was also very good in the quarter. Ted will elaborate more on Q2 performance in his remarks. For the first half, organic growth was about 2.5%, very close to our expectations coming into the year. The standout region was Latin America, with double digit organic growth. Although Mexico led the growth, it was broad-based across the region. Segment operating margin expanded more than two points in the first half, with particularly strong performance in control products and solutions and adjusted EPS was up 15%. So excellent earnings performance in this market environment. Let’s move on to what we are seeing in economic indicators and market condition. Global GDP and industrial production growth forecast has softened since January. For the US, industrial production growth has moderated for the past several months, with oil and gas weighing on overall economic growth and incremental consumer spending has not yet filled the gap. Automotive remains strong and consumer industries are still solid. For the second half, we expect market conditions to be similar to the first half, but with further declines in oil and gas and improvement in other verticals including auto, chemicals and some other heavy industries. EMEA's economic indicators have improved slightly and we expect growth to be a little better in the second half with improvement in Home and Personal Care, Life Sciences and increased project activities in Metals and Water, Wastewater. In Asia, India continues to recover and we are seeing good growth there. China remains slow, which is consistent with the PMI continuing to hover around 50. For both China and the region, we expect low single digit growth for the second half and full year. Other conditions in Latin America are mixed. Mexico remains healthy, but Brazil and Argentina are in a recession and Venezuela remains very challenging. With all of that said, let’s move on to our updated guidance for fiscal 2015. Overall, while not a lot has changed from a quarter ago, we are somewhat more cautious about the rest of the year. Some industrial economic indicators have weakened. Oil and gas customers have cut CapEx more quickly than we anticipated and we would have liked a stronger book-to-bill in Q2. But based on our current assessment of backlog and front-log, we continue to expect higher growth rates in the second half, primarily in our solutions and services businesses. They just won’t be quite as strong as we thought a quarter ago. For our full year guidance, we are lowering our organic sales growth by 1 point and taking off an additional 1.5 points, due to a larger currency headwind. We now expect fiscal 2015 reported sales of about $6.4 billion. In spite of the topline reduction, our expectation for a higher full year margin enables us to maintain an adjusted EPS guidance range of $6.50 to $6.80. Ted will provide more detail around sales and earnings guidance in his remarks. I just have a few closing comments. While I wish we were seeing stronger market growth, I like our competitive position. Revenue diversification and agility are helping us pursue the best growth opportunities. Our strong productivity culture enables us to invest in innovation and organic growth and we’ve demonstrated that even in a lower growth environment, we can still grow earnings and deliver great value to shareowners. Before I turn it over to Ted, let me take a moment to mention something that I’m very proud of. We recently received the Ethisphere award for the seventh time, naming us one of the world’s most ethical companies. This recognition reflects our employees’ and partners’ commitment to integrity, responsibility and accountability, all essential qualities of a successful and sustainable company. So Ted, I’ll turn it over to you.

Thanks, Keith. Good morning everybody. I’ll start on page four, second quarter key financial information. Sales in the quarter were $1.551 billion, 3.1% lower than Q2 last year. Organic sales growth was 2.7%, but currency translation reduced sales in the quarter by 6 points. Sales were down about 1.5% sequentially. Sequential organic growth was about 2%, pretty typical in terms of the historic pattern, but currency translation reduced sales by over 3 points sequentially. Segment operating margin continued to be very strong at 21.6%, up 270 basis points from Q2 last year, despite the sales decline. The year-over-year margin increase was primarily due to the higher organic sales, strong productivity and favorable mix, partly offset by some increased spending. I’ll note that Q2 last year is our easiest quarterly margin comparison. General corporate net was $21 million in Q2, up about $2 million compared to a year ago. Still in line with our expectations for the full year. Adjusted earnings per share were $1.59, up $0.24 or 18%, compared to the second quarter of last year. The adjusted effective tax rate in the quarter was 26% compared to 27.9% in Q2 last year. Last year’s rate included some unfavorable prior period adjustments. Free cash flow for Q2 was $269 million, another strong result. Free cash flow conversion on adjusted income was 125% in Q2. Our trailing four quarter return on invested capital was 32%. A couple of items not shown here. Average diluted shares outstanding in the quarter were $136 million, down about 3% compared to last year. Also during the second quarter, we repurchased 1.14 million shares, at a cost of $127 million. Year to date, we’ve repurchased 2.69 million shares at a cost of $294 million. In November we talked about a full year repurchase target of $470 million. We are running about 25% ahead of that pace through March. Similar to last year, it’s likely that we’ll spend above the target for the full year. At the end of the quarter, there was $757 million remaining under our share repurchase authorization. The next two slides present the sales and operating margin performance of each segment, both for the second quarter and year to date. I’ll start with the Architecture & Software segment on page five and I’ll focus my comments on the second quarter results. On the left side of the chart, Architecture & Software segment sales were $674 million in Q2, down 1.8% compared to Q2 last year. Organic growth was 4.8%. We continue to see very attractive growth rates in this segment driven primarily by our Logix platform. Currency translation reduced sales in the quarter by almost 7 points on a year over year basis. Moving to the right side of the chart, on 4.8% organic growth, A&S margins were 29.8%, up 210 basis points compared to Q2 last year, with the improved margin primarily due to higher organic sales and another good productivity quarter. Spending in this segment was up modestly year-to-date through March. We expect spending to increase in the second half. Turning to page 6, this the Control Products and Solutions segment. In the second quarter, Control Products and Solutions segment sale were down 4.1% year over year with organic growth of about 1.2%. Currency translation reduced sales by about 5.5 points. Organic growth for product businesses is in the segment was 5%, equally strong to the growth rate seen in Architecture and Software. However, we continue to experience weakness in the Solutions and Services businesses, with organic sales down about 2%. The book-to-bill in Q2 for Solutions and Services was 1.06. This was lower than we expected and consequently we will be reducing our growth expectation for Solutions and Services in the second half compared to the prior guidance. The order shortfall in Solutions and Services was primarily and heavy industry, with about half that coming in oil and gas. CP&S continued to deliver strong operating margins, 15.2% in Q2, up 300 basis points compared to last year. The year over year margin improvement was due to the organic sales growth, continued favorable mix as our product businesses are out growing Solutions and Services, and particularly strong productivity performance in this segment. Moving to the next slide, page 7 provides a geographic breakdown of our sales and shows organic growth results for the quarter and the first half. Again, I'll focus my comments on the second quarter. The organic sale growth was driven largely by the Americas, with Latin America continuing to experiencing the highest percentage growth rate. The U.S was up 3.5%. Growth in automotive and customer industries more than offset declines in oil and gas. Canada was down 11% compared to Q2 last year. As we discussed last quarter, that was not unexpected. Canada is down 1.7% year to date and we are expecting to be down above mid-single digits for the full year. Canada has a disproportionate exposure to oil and gas and declines there are more than offsetting attractive growth rates in transportation and consumer industries. In Q2 in Latin America, Brazil was about flat year over year, but otherwise growth was pretty broad based across the balance of the region, with Mexico up 18%. Latin America was the only region to experience year over year growth in oil and gas in Q2. EMEA was up 1.2% organically. We saw growth in both mature and emerging EMEA, with a little higher growth in emerging EMEA this quarter. Asia Pacific was up 3.2%, driven primarily by India and China. India was up 16% off of a relatively easy comparison and China was up 6%. As a final note on this slide, overall, emerging market organic growth in Q2 was up over 8%. Please turn to the next page, which is our updated fiscal year 2015 guidance. As Keith mentioned, we are reducing our full year sales guidance but holding the prior EPS range. Across the guidance range, we are reducing sales by about 2.5%. Approximately 1.5% point of that decline is due to currency translation. In our prior guidance, we expected currency transition to reduce full year sales by 4.5%. We now expect currency translation to reduce full year sales by 6% and to reduce full year EPS by about $0.40. We are also reducing sales guidance by 1 point to reflect lower organic growth. The lower organic growth is due in part to lower than expected orders in Q2, primarily in our Solutions and Services businesses. Also, we are now seeing an earlier drop in oil and gas spending than we previously expected. These first two factors are related to some extent. And the last factor, we are continuing to see declines in the forecasts for industrial production growth rates. Our previous guidance called for reported sales of approximately $6.6 billion at the midpoint. We now think the midpoint will be a little over $6.4 billion. The previous guidance called for organic growth of 2.5% to 5.5%. The new guidance is for organic growth of 1.5% to 4.5 %. At the midpoint of sales guidance, we expect year over year organic growth rates in our product businesses to be about the same in the second half as the first half. We expect higher second half growth rates is the Solutions and Services businesses that’s consistent with our backlog and our front log at the end of March. We also expect to see a typically large fourth quarter for sales in our Solutions and Services businesses. Despite the lower sales, we are maintaining the previous EPS guidance ranges of $6.50 to $6.80. We now expect higher margin to offset the earnings impact of reduced sales. The margin improvement compared to prior guidance is based on stronger Q2 margins, a continuation of the strong productivity into the second half and a more favorable earnings conversion on currency translation than we previously expected. We now expect operating margins for the full year to be a little over 21.5%. This margin guidance incorporates an increase in spending in the second half compared to the first half. We continue to expect an adjusted effective tax rate for the full year of 26.5%. Given our strong cash generation though the first six months, we now expect conversion on adjusted income to be above 100% for the full year. There are a few other items not shown here that I think generally are of interest. We continue to expect general corporate net expense to be approximately $80 million for the full year. We continue to expect average diluted shares outstanding to be about $136 million for the full year and finally we are expect process sales growth for the full year to be at above the company average. And with that, I'll turn it back over to Rondi.

Okay, great. Thanks Ted. Before we start the Q&A, I’d just ask that you limit yourself to one question and a follow up so that we can get to as many callers as possible. Mark, we’ll then take our first question.

Your first question comes from the line of Shannon O'Callaghan from UBS. Please go ahead. Shannon O’Callaghan : Congratulations Rondi. Thanks for all the help. Appreciate it. Hope you enjoy it. Keith, on the consumer industries, could you maybe walk us through a little bit Food and Beverage, Home and Personal Life Sciences, what you are seeing in those different markets. And then also maybe the nature of the investment you’re seeing. You mentioned that Logix was strong in mid-range. I'm just wondering sort of the types of activity you are seeing.

Yes. If we look at the consumer verticals, certainly food and beverage we see that growing in line with the company average in the quarter. We continue to see investment particularly in Asia Pacific and Latin America where there’s ongoing strength with both multi-nationals and indigenous food companies. We are also seeing in particular in Asia and China in particular, the continued need for safety and the risk management of having quality food and quality production processes and that’s driving some of the investment there. In the home and personal care, we are seeing continued investment in innovation in their products and many of the companies are expanding their SKU’s and therefore need new and more flexible machinery to do that. We expect that to continue as we go forward in the second half of the year. And as I mentioned, we think home and personal care will be an area that is above the company average growth. And then Life Sciences, we did see growth in all geographies, including EMEA and this is a pick up from what spanned the previous couple of quarter. That’s a quick picture of what we are seeing in some of the major areas buts a good quarter and basically a good outlook for the remainder of our fiscal year. Shannon O’Callaghan : Thanks, and then just on process, the up two like you said, pretty good in this environment. Can you just maybe frame for us a little bit how you are approaching the process business right now and thinking out how to grow it in a tough oil and gas environment? Are there other verticals you’re approaching or different approach in terms of product set, etc.?

The product set is pretty much the same. We’ve had some new functionality releases in some of our process in both continuous and the batch hybrid space. But in general, our product portfolio has been pretty consistent over the last couple of quarters after a major release in our planned PAX previously. We are looking forward to some new introductions later this year that will particularly be in the batch hybrid space which is an area that we believe we can continue to grow in. But as far as the markets themselves, while oil and gas is certainly going to see a decline, we believe that chemical will be stronger for us in the second half and going forward. That’s an area that we continue to believe we have some opportunities to grow in. Even in oil and gas, if you look at -- Ted mentioned that Latin America grew for us in the second quarter. We think there are pockets of investments that are going on, both in emerging markets where either they’re trying to become more energy independent or they just have a government industry that they want to continue to invest in, whether it be the oil side or the gas side. We see isolated opportunities even in oil and gas and in particular some of the midstream activities that will continue to be invested in. And investments, as we talked about in mining, OpEx spending will become more critical in some of these areas and that spending should continue. We are seeing very isolated, but some pockets of spending in metals. It is very project specific. It is not broad-based and we’ve been successful in a couple of those. We also see once again isolated but pockets of spending in Pulp and Paper, which is an industry that has really been reduced over a number -- probably over the last decade. And so they do look at modernization and energy efficiency investments. And in North America we do see modernization going on in some of those locations. That gives you a little feel for where we see the opportunities to have a little bit above average growth to offset some of the oil and gas decline. Shannon O’Callaghan : That’s great. Thanks a lot.

Your next question comes from the line of Jeremie Capron from CLSA.

Thanks. Good morning and congratulations, Rondi, on your retirement. I wanted to ask about Latin America. Very impressive growth coming from Mexico. I’m wondering how much of that is driven by the automotive industry and how long do you think this is going to last?

Certainly parts of it has been driven by automotive and there’s been investment in automotive from both the U.S car manufactures, as well as European and Asian. We see that automotive investment continuing over the next couple of years. It’s one of the reasons we’ve identified automotive as one of the areas that is going to grow a little faster for us in the second half. Mexico is where some of these investments are going in. And so we see Mexico and automotive continuing. And when we talk about this, there’ll be two dimensions to that. One will be the car manufacturers themselves, but secondly it will be the tier 1 suppliers to the automotives. And certainly that’s an opportunity for us as well. The investment and the automation intensity is different than an automotive plant, but we also see that is an area. The other area that we see as an opportunity for us is the fact that some of the opportunities that we’ll see in powertrain now with FANUC and we do know there are some powertrain investments that will be going into Mexico. Independent of what I just talked about with automotive, that’s probably not where the greatest growth has been for us. There is still significant investment going on in oil and gas. Pemex as you know has opened up the energy sector for external investments. So we see that as a continued opportunity. Oil and gas is very important to the Mexican economy and they’re also modernizing some of their existing facilities. We see that as a potential. And then mining, mining in Mexico is one of the few areas where investment is taking place and also then the growing middle class is pushing for the consumer industries and we see food and beverage and brewing, all of the consumer related industries. Home and personal care has also opportunities for growth. So it’s really a broad-based set of industries that’s driving up growth in Mexico and we have a very good partner network there, a very strong distributor organization that is able to support that growth. So we see continued ability to grow in Mexico in a diverse set of verticals.

Thanks Keith. And Ted, I wanted to ask about the margins. Again strong margin performance this quarter despite the decline in reported revenue. You talked about increasing spending in the second half. I’m wondering if you could give us a little more color around that and if you expect the incremental margins to remain at this elevated level for the remainder of the year.

First, I think spending has probably started off a little slower for us in the first half of this year than we expected in terms of a ramp up. We are up about 2% year over year in spending in the first half. We expect to be up more like 4% year over year in spending in the second half. As it relates to incremental margins, I do not expect incremental margins in the second half to be as strong as what you saw in the first half, but I expect absolute margins in the second half to be about equal to the first half.

Thanks very much.

Your next question comes from the line of Stephen Tusa from JPMorgan. Please proceed.

Hey good morning. Rondi, congratulations. It’s been a pleasure working with you. Just on the forex. I think you guys guided to a 40, something in the low kind of $0.40 range forex impact year over year on the last call.

Last call was $0.38.

Okay. So it’s basically another couple of pennies on the percent half. Has anything been changed with regards to the kind of conversion rate of that forex that you’re assuming?

Yeah, I think I mentioned that. We think we are now going to have a somewhat more favorable conversion rate for the full year than what we anticipated in the previous guidance.

On the foreign exchange?

On the foreign exchange, correct.

What’s driving that?

The conversion rate on the foreign exchange is probably one of the most difficult things for us to forecast. Over time it tends to run at about our normal operating margin, our normal operating earnings margin, but it varies a lot quarter to quarter. Now that we are six months through the year and we’ve got the first half behind us, and it was slightly favorable to what we were thinking, our best estimates now for the second half say that likely continues.

Right, okay. And as far as the kind of the core incremental margin, I mean clearly you guys are putting up some very good numbers. How do we think about kind of 30 to 40 going forward? Is that something you’re managing too? Is it -- I know it’s kind of -- all these numbers are kind of an output obviously on the ground doing business. How do we kind of think about what’s going on structurally?

We have made some structural changes that have boosted our productivity this year and I think we are going to run at a somewhat higher level of productivity this year than it's been the case for the last couple and that’s providing a nice boost to our margins. On a year over year basis, I think you are going to see the largest impact of that in the first half because the margin comparisons get a little tougher in the second half. If you looked at our second half expectations and you pulled out the effect of currency, I think what you see is a conversion is margins that’s pretty normal, kind of around 30%. That’s kind of a fiscal 2015 answer. In the longer term, we still believe that if we are driving reasonable levels of organic growth and I use that to mean 4%, 5%, 6% organic growth that we should be able to drive 30% to 35% conversion margin. Now it's always going to depend on mix of growth between our Solutions and Service business and Products business and the rate at which we’re ramping spending. It won’t be that in any particular period, but over the longer term we think that’s a reasonable expectation.

Okay and then one last quick one just in Lat Am. You said oil and gas grew. Was that mostly offshore down there or was it just a flavor of that growth?

No. It’s a combination. Matter of fact, the majority of it was probably onshore in the Andean region. Countries like Peru, Colombia in addition to Mexico and Mexico is a mix with a lot of it offshore there, but the rest of South America is pretty much onshore.

Okay great. Thanks a lot.

Your next question come from the line of Richard Eastman from Robert W. Baird. Please proceed.

Good morning and Rondi, congrats. Keith, could you maybe just speak for a minute or two, when we look at the modest downtick in core growth that’s forecast now for the year, when I look at this regionally, is this--- it would appear as though maybe expectations for APAC and also perhaps for Canada, maybe you’ve come in a little bit. So thinking about it regionally. And is that again -- I would expect Canada to be oil and gas but APAC, what would be maybe the reason for that? Is that just kind of China globe PMI or?

I think just to characteristic it for the year, we believe each region will be down other than Latin America. That would be the way we would characterize it in total, but [indiscernible] I'm talking about versus other -- versus our guidance last quarter. So that’s why we took the overall guidance down organically a point.

Then just one follow up question here on exports. With the stronger dollar, are you seeing anything on pricing, -- also competitive pricing there? And also again is the US dollar just making us less competitive from an export standpoint?

As always quite frankly, a stronger dollar makes us less competitive export wise. When you see the dramatic change against the Euro, that is helping the Europeans, particular OEMs compete and then there’s also another dynamic going on and that is China. And you look at China now versus the dollar and China currency is pretty much pegged to the dollar. And with what happened with the Euro, we’re now seeing that the Chinese OEMs are not as -- do not have the same advantage against the European Euro. So we are seeing some different dynamics going no from a competitiveness standpoint that haven’t been seen in a while, in particular because of the magnitude of the Euro-Dollar change and then the impact on other currencies, particularly with there’s strong exporting economies. And I think that’s part of the reason why you’re seeing a little bit of a decline in the China numbers. China for us, OEMs have slowed a little. So we have seeing some of the impact there. But just to be clear in the US, in the US most of our OEM business is domestic business, not export business. We have not seen a significant impact to our business at this point in time.

Your business, what’s good for the European OEMs competitively versus the Chinese, your component sales into those European OEMs, is that business held up? Because that’s where our cost advantage would be, right?

Yes. So far it has and part of the reason is a lot of the European strength is with exporting OEMs. And so that’s for machinery and a lot of the strength of exporting OEMs is to the US now and that’s into where our strength is and where our capability of supporting those machines and the customer base is the strongest. I think you’ll see our ability to continue to grow. It’s why CompactLogix is growing at a faster rate than the ANS and Logix average quite frankly is because we continue to be able to work the European exporting OEMs and that’s because it's not a domestic sale and it's a benefit to Rockwell to have a strong position with the exporting OEMs in Europe.

Your next question comes from the line of Nigel Coe from Morgan Stanley. Please proceed.

Thanks. Good morning and Rondi, I hate to should so repetitive, but congratulations and thanks for the help. It's been a pleasure. I just want to some back to the FX conversion. Is it because the mix of currency has changed i.e. a weaker Euro region performance, weaker Canadians performance or has there been a change to your hedging policy?

I would say there has been a change in the mix of currency from our prior guidance to this guidance and that is some of that. We have made no changes in our hedging policy, although the mix in currency, it does have impact on the hedging results related to that. But I would say a lot of this is just about we’ve got better visibility now about what to expect in the second half and we’ve got two quarter under our belt.

Okay, that’s clear. And then on the revision to the full year core growth outlook, obviously the second half range is pretty wide as it normally is, but I was a bit surprised you lowered the -- took the low end down to 1.5, which implies a deterioration from the first half run rates. Given that we’re seven months into the year now, I’m just wondering, what drove that incremental course at the low end? And perhaps if or could maybe add some color in terms of what you saw in March going into April.

I don’t think we were trying to send any message with the low end. I mean we focus kind of primarily on the midpoint. We always think of the midpoint as the most likely result. We maintain kind of a symmetric range around that midpoint. I wouldn’t read a lot more into it than that. As it relates to the month of April, I would say early in the month it started a little bit slow. It has accelerated through the month and right now I think it would-be fair to characterize it’s -- what we have seen is consistent with our guidance.

Okay great. And then just finally, the 10.6 book-to-bill on solutions, it's in the zone of where it was last year 1.1. What sort of book-to-bill were you expecting in your previous plan?

I would say we were hoping we were going to see something about 5 point higher than that. So maybe like 1.11, 1.12. We missed orders in Solutions and Services on the order of $40 million.

Okay, great. That’s very helpful. Thanks guys.

Your next question come from the line of Richard Kwas from Wells Fargo. Please proceed.

Good morning. On the solutions service or CP&S versus ANS, what’s the split on oil and gas exposure between the two businesses? I assume that CP&S with solutions exposure there, there’s a fair amount there, but what’s the split out when think about segments?

When we think about the two segments, we don’t have a precise, but we believe A&S is about 30% of it and CP&S is about 70% of it. Within CP&S, about 85% of it is solutions and services. So in total it’s about 40% products and about 60% solutions and services.

Rich, what Keith was giving you is kind of the breakdown of our total sales in oil and gas. I think where you were going is and I would agree, we have a lower percentage of sales in oil and gas and Architecture & Software than we have in Control Products and Solutions.

I think if I do some high level quick math here, as a percentage of A&S, sales is less than 10%. As a percentage of CP&S, sales is going to be 15% blocks for this and 12% for the total company.

Okay, that’s helpful. And then with the debt raise and the free cash flow generation, any change in the priority for use of cash?

I don’t think any significant change is in the priority. As I mentioned, cash flow is running a little stronger this year than we originally projected. We are running ahead of pace on repurchases. I suspect that’s going to continue.

Okay, great. Rondi, thanks for everything. Enjoy San Diego.

Thanks Rich.

Your next question comes from the line of Steven Winoker from Bernstein. Please proceed.

Thanks and Rondi, I’ll echo everybody’s congrats and thanks as well. Let me just ask a finer point on the margin question and the margin details sustainability. That FX conversion, could you maybe quantify a little bit more how much that contributed and were there any transaction benefits as opposed to translation in there?

Every period we’ve got a combination of translation, transaction and re-measurement gains and losses running through that currency number.

And hedging.

Well, hedging is part of the transaction. But in Q2 we saw a very modest margin benefit from currency. Margins were up year over year 270 basis points. The favorable currency effect related to that we think was about 20 basis points. It was not zero, but it wasn’t large.

Okay. And then, so then that brings me back to pricing mix productivity, the other items and you already mentioned the incremental investments came in -- or the year on year came in lower than you expected. But maybe give us a better sense for what you think was productivity versus pricing mix leverage just to help us understand that sustainability question going forward.

I would say productivity was probably the single largest item in the quarter, although we did get a favorable kiss from both organic sales growth. We have this favorable mix year over year. It’s probably about half a point. On the productivity, we’ve talked about this a little bit in the past. We have a very well established and ongoing productivity program in the company and it includes our strategic sourcing efforts, a continuous focus on improved manufacturing and labor utilization, product and process cost reductions and all of that consistent with implementing lean and six sigma business processes. In the second half of last year, we stepped up our productivity goals, thinking that we might face more difficult macro conditions this year. And we’ve had success across both segments driving higher productivity, but with particularly strong productivity improvement in Control Products and Solutions. We talked last quarter about restructuring actions in CP&S, in the second half of last year. Those are showing up now as higher margins, particularly in our Solutions and Services business. As I said, we expect this to be above average year for productivity improvement.

Where do you take R&D?

R&D is up year over year, but I would say the increase right now is relatively modest. That is a timing issue. I think you’re going to see that. That will pick up for us in the second half.

That’s what I was just going to say. That is one of the areas that we’ve been slower with the ramp up simply because of availability and it’s going to be part of that 4% growth in the second half that Ted mentioned earlier.

Okay, great. And just lastly Keith, maybe talk a little bit more about the competitive dynamics and process. You talked about the currency impact, but further to that, it sounds like your commentary you think you’re gaining share still relative to even if we just compare to the Europeans or others. How are you thinking about your share moves progressing?

We believe we continue to gain share in the process space. Obviously it’s an area that we did not compete with the breadth of our portfolio historically. So it’s a new area for us. It’s been the biggest growth in our serve markets over the last couple of years. And we still see process as one of the better opportunities and areas for us to drive revenue growth. So the majority of that quite frankly, is going to be, we have to take share. The market, we have to be growing above the market growth rates here and that means we are going to have to take share. We think the best opportunities for us to take share are in the batch hybrid space and then in certain applications in the heavy industries that we are focused on in oil and gas, in Pulp and Paper, in metals and now chemicals is a better area. We’ve identified specific applications, specific geographies that we can continue to make inroads with the modern DCS approach that we take with our portfolio. We think we have some competitive differentiation. We think our plant-wide optimization message is critical for helping customers drive cost and global competitiveness and cost efficiencies and productivity. We have a very targeted approach for where we are looking at it and there’s a large legacy install base that we also have focused on to be able to update and upgrade because of the fact that those legacy systems are no longer supported or available from the original manufactures. We have a very broad, but yet focused initiative here to drive that growth. And we still believe that it’s an area that while the timetable has stretched out, our goal continues to be to double that business that we had as of 2012.

Your next question comes from the line of Julian Mitchell from Credit Suisse. Please proceed.

Hi, thanks and thanks again Rondi for all the help. In terms of European demand, I think one of your competitors had sounded pretty good about Europe improving in general in the industry business a few days ago. I don’t think you had mentioned some of the OEMs obviously getting a boost from the currency. I just wondered underlying sort of fundamentals beyond just some of those export OEMs, are you seeing a genuine increase in the pace of order intake in Europe?

Yes. We have seen some improvement in the outlook in Europe in our front-logs. We see that the major areas that we see the improvements would be in the Home and Personal Care markets. The Life Sciences markets have been growing there for us as well. And then also if you take very isolated countries or locations, we’ve seen some growth in metals and some growth in the water Wastewater area, as well as part of it. That continues to be an area that we see growth opportunities and consumer is a space that continues to develop and continues to create opportunities for modernization in I’ll say mature Europe. And then in the emerging Europe that’s where we have seen some of the higher growth opportunities. And in fact emerging Europe grew at a faster rate for us this last quarter than Western Europe. A couple of good industries, a couple of good countries and yet a more positive view of the economy there than certainly six, 12 months ago.

Thanks and then just one last one on the margin outlook. Ted, I think you’d called out mix was around 50 bps helped margins in Q2. I think in Q1 it was also a decent drive up, particularly in CP&S of the margin. Just wondering in your second half outlook on margins, what are you -- are you assuming mix is flattish, or still should be pretty favorable?

I think mix is going to -- it will certainly be less favorable than the first half because we’ll get that traditional significant jump up in solutions and services sales, particularly in Q4. And as we said, we are expecting better growth in solutions and services in the second half. I think we are going to have a little bit of mix headwind, but my expectation is the volume leverage should make up for that.

That’s great. Thank you.

Before we go to our last caller, this is Rondi, I just want make a couple of comments. I’m not sure that we got this out, but I want to make sure that we are clear about our revised expectations for oil and gas for the full year. We think it could be up to 10% down as implied at the midpoint of our guidance. And then if you back engineer second half, that’s probably down something like mid-teens. And so I just want to make sure we get that out. The other thing I just wanted to say a few words quickly before we go to the last caller, since this is the last call that I’ll be participating in, I’ll take a little bit of license here, but I just want to say that it’s certainly been a privilege to represent such a great company to the investing community. I feel really lucky that Ted asked me to do this job seven years ago. I’ve often said that I think I have the best job in finance. Now I’m going to cry. I’ve learned a ton. I’ve really enjoyed working with all of you and I appreciate all the best wishes. With that, I think we’ll just take the last call.

Your last question comes from the line of Jeff Sprague from Vertical research

Thank you very much. Well, we don’t want to make you cry Rondi, but hopefully we are making you blush a little bit. You’ve done a great job. You deserve it. Thank you for taking the last call. Ted, I just wanted to come back. Obviously, perhaps not obviously, but I think the biggest surprise for everyone is the margins this quarter. And it is very difficult from the outside looking in to get our head around productivity and how to model that and that’s always going to be the case for sure. I guess really my question is; as you said you’re pretty comfortable at 30% to 40% incrementals on 4% to 6% organic growth, but how do we think about what you have left in productivity tank if we really are stuck at, pick a number two or three. Where does the incrementals want to go in that type of environment?

Sure. So I think that’s a fair – Jeff, I think your question is beyond fiscal 2015.

Yeah, beyond fiscal 2015. Correct.

I think you’re absolutely right. Look, if we start to operate in an organic growth mode of 2% to 3%, it will be difficult for us to drive incrementals that are in that 30% to 35% range. And part of the reason it will be difficult is it will be more difficult to drive higher levels of productivity.

Yeah, it makes sense. Could you also give -- it’s interesting, we didn’t get many oil and gas questions. So Rondi, thanks for jumping on with that. It’s like, wow, this whole debate is over. Let’s move on to the next thing. I was interested in what you were actually seeing in OpEx versus CapEx. We’ve heard from a lot of companies that OpEx is getting slashed very dramatically because it’s what people can cut quickly. Are you seeing that type of behavior? A little bit of color on what you can see in the forward CapEx budgets versus the near term behavior of your customers.

Yeah, so Jeff I think the first thing I would say is our actual visibility into what exactly is CapEx and OpEx is not great, but the larger declines and the earlier declines we have seen have come more on the solutions and services part of our business than in the product part of our business, which I think would cause us to conclude that so far it has been more about CapEx and not as much about OpEx.

That’s really interesting. And then just finally on the FX question, so really your guide now at $0.40 puts your FX conversion margin at your average margin roughly speaking. You were anticipating it to be – so you thought it was going to be worse than typical and we’ve ended with the typical result.

That’s correct. Frankly, our guidance last quarter was somewhat colored by a less favorable result in Q1.

Yeah. Okay, thank you for squeezing me in. I appreciate it. Thanks a lot. Take care.

Okay Mark, I think you can go ahead and conclude the call.